Forex, foreign exchange or FX trading is the conversion of one currency into another. If you’re interested in trading on the forex market, here’s a closer look at everything you need to know about forex, how it works, the methodology and its landscape in Malaysia.
If you have ever walked past a money changer, you might have noticed different currencies peg against the Malaysian Ringgit in a big chart. Forex trading is the complex version of this scenario, used by traders to exchange currencies to earn a profit.
Forex trading is also relatively less popular among Malaysians than other mainstream asset classes like stocks, robo-advisors or unit trusts. We will be honest – forex trading may not be profitable for everyone if you don’t have the right skills or knowledge.
According to our research, it is a well-known figure that 80% to 90% of forex retail traders do not succeed in the forex world, most probably because forex is a high-risk investment. Because the market is based on competition and speculation, it is quite difficult, perhaps even impossible, for everybody to be profitable at the same time. From what we gathered, there are also apparently very few truly successful forex traders out there.
These are interesting findings given the fact that the foreign exchange market is the most actively traded market in the world, according to Nasdaq. More than RM20.2 trillion are traded on average every day, exceeding the global equities trading volumes by 25 times. This high liquidity makes it easy to buy and sell currencies.
To help us get a better sense of the forex world, CompareHero.my spoke to Jin Dao Tai, the managing partner of ForexBriefcase, a premier multi-account manager headquartered in Singapore. Jin is also an entrepreneur, award-winning forex coach and trainer, an international speaker and a multi-million dollar trader.
What is a forex marketplace and how does forex work?
Forex is derived from the words of foreign currency and exchange. Forex exchange market, also known as FX, is a global marketplace for exchanging one national currency for another to gain a profit; it is usually exchanged as pairs.
In a world where international trade is necessary to develop and survive, currencies are considered a standard in international business and are exchanged in order to conduct foreign trade and business. In other words, forex is the practice of trading currency for profit.
Some real examples of currency exchange (but not forex) are, for example, if you travel to the United Kingdom, you wouldn’t be able to buy goods or services in the Malaysian Ringgit (MYR) because it is not the locally accepted currency, and you will, instead, need to use the British Pound.
The same method applies to e-commerce transactions as well. If you buy a set of makeup from South Korea, you will need to buy it through the locally accepted currency which is the South Korea won.
However, forex trading is also a popular form of investing for private citizens, or also called retail traders.
“Retail traders, companies, banks and institutions interact in a market - very similar to the stock market. But instead of buying a slice of a company, you exchange currencies across different countries,” Jin Dao told CompareHero.my.
“As traders, what we do is we take advantage of the small price movements to make a profit out of that difference in movements over a long period of time or a short period of time. For example, that fluctuation between the Malaysian Ringgit and the Singapore Dollar – it changes every day, so instead of just changing it to buy goods and items, we change it over and over again to try to make a profit out of it,” he said.
A unique fact about forex is that there is no central marketplace for foreign exchange. Because it is decentralised, it instead, trades electronically over-the-counter (OTC), meaning all transactions are conducted via computer networks between traders around the world, rather than on one centralised exchange.
The market is also a global one – it starts at 6.a.m Sydney time and ends on Friday at 5 p.m New York time, which means it is open to traders 24 hours a day, five and a half days a week.
Currencies are traded worldwide in the major financial centres of London, New York, Tokyo, Zurich, Frankfurt, Hong Kong, Singapore, Paris and Sydney, across almost every time zone.
Forex trading has been around for some time, however the modern version has been in existent for the past 10 years or so.
The history behind forex trading
According to Investopedia, forex, in the most basic form of converting one currency to another for financial advantage, has been around since nations began minting currencies. This is a stark contrast to the modern forex markets which are a modern invention.
“Forex has been around for a long time since companies started trading and countries started exchanging currencies with each other to manage their hedge funds and reserves," Jin said.
“But it started becoming more mainstream towards retail traders, or most of us, in the last ten years – when it became available for retail traders just by having computers and the internet rather than going through banks,” he added. “It started for a lot of people as a form of gambling or speculative asset. But now thanks to more analysis and proper strategies and risk management, we have seen people make a lot of good returns from the market.”
The forex trading methodology - what are the different ways to trade forex?
As a trader, you will buy currency at the current market price, and at the same time, sell another at a target price in the future.
A trader will always buy and sell at the same time, which is why currencies are always quoted in pairs. The profit or loss obtained is the difference between the two prices because, as we know it, currency prices are frequently changing.
There are several different ways to invest or speculate in currencies. From what we found, the most popular ways to invest in currencies are retail forex, spot FX, currency futures, currency options, currency exchange-traded funds (or ETFs), forex CFDs, and forex spread betting.
What is the spot market, futures market and forwards market?
In today’s market, Jin said, are there are three ways that institutions, corporations and individuals trade forex: the spot market, the forwards market, and the futures market.
Jin said the spot market has always been the largest in forex trading because it is the so-called “real asset” that the forwards and futures markets are based on.
Jin said different people will approach different markets for different purposes. "Traders such as ourselves, will be trading the spot market - which means we will be selling and buying based on current prices,” he said. “It is very straightforward, you turn on any trading platform, and you look at the current price - and that is the price you are going to be buying or selling at.”
“But for the forwards and futures markets, you are pricing the currency three months or four months, even one year ahead. So it’s a form of hedge or pre-planning purchase,” he said. “It is quite complex to price a currency over an extended period especially with so many things that could affect the market.”
Is forex trading legal in Malaysia?
The short answer is yes. In 2012, Bank Negara Malaysia stated that forex trading or the buying and selling of foreign currency in Malaysia is allowed only through licensed commercial banks, Islamic banks, investment banks, and international Islamic banks, according to Forex Malaysia. However, the platforms or brokers you use must comply with these rules.
1. The Exchange Control Act Of 1953
This Act imposes general restrictions on foreign exchange dealings by residents and non-residents. However, there are no restrictions for non-residents to invest in Malaysia to purchase ringgit assets, such as land property and securities. On top of that, there is also no restriction for non-residents to transfer foreign currency, all profits, returns and divestment proceeds from their investments in Malaysia, abroad.
2. The Securities Commission Act Of 1993
This Act gives powers to the Securities Commission Malaysia, to license and regulate businesses dealing in securities.
3. The Money Changing Act Of 1998
This Act provides the licensing and regulation of money-changing business. For example, under this act, a person licensed under the Exchange Control Act 1953 is permitted to trade (buy and sell) foreign currency that is licensed under the Money-Changing Act 1998.
Should you give forex trading a try - what is the landscape in Malaysia?
From his experience of approaching many retail investors in Malaysia, Jin said he had seen a growing interest among traders towards forex. “We have seen more people getting involved and realising they need to get involved in the market - not just in forex but across the board in investing or trading because having just one piece of income, especially in today’s economy is insufficient,” he said.
“If anything - this pandemic has taught us that you need another source of income in life: either by trading, starting a business or by building on another skill, we all need that extra source. We have seen a significant increase in people trying to find out more about FX, trying to learn how to do it and also trying to get started whether it is trading or investing.”
When it comes to forex, the more attractive it is to do business with a particular country - because of the tax benefits and booming industries etc. - the higher the value of that country’s currency (exchange rate).
If Malaysia’s palm oil is in high demand, thus more people would want to buy Malaysian Ringgit to purchase that oil, and Malaysian Ringgit will subsequently rise.
“With forex, you are buying into the performance of a country. If a country is doing well, we see the value of that currency increase, or if the country is performing badly, because of the pandemic for example, then the currency will drop,” Jin said. “It is similar to gold in a way - the price of a currency depends on how that country performs.”
Unlike the stock market, big news or large market movements, as opposed to small nitty-gritty things, affect the market, Jin said. “FX is easier than the stock market; for the latter, you need to analyse the stock and the company compared to the FX market,” he said.
“Big news, such as the pandemic has affected the markets quite significantly. The U.S. election is another example - that has affected the price of the U.S. dollar,” Jin said. “If we go back even further to the global financial crisis 2008 - that is one of the biggest news that has affected markets across the board and affected currencies.”
Just like stock trading, there are steps to forex trading.
Step-by-step guide on how to trade forex and make your first trade
Now that you have some understanding of forex, let’s take a closer look at how you can make your first trade. Follow these steps:
1. Choose a currency pair
In forex, you are always exchanging or trading the value of one currency for another. What that means is you buy one currency while selling another at the same time. That means you will trade in pairs e.g. RM/USD.
Typically, new traders begin by trading the most commonly offered pairs of major currencies - but there are no restrictions to this.
2. Analyse the market
Quite similar to stock trading, you will need to research and do a thorough analysis of the market - two tactics that make up the foundation of trading. Remember, that operating on emotion will never end well.
To avoid feeling overwhelmed by all the different currencies – because there’s a lot, narrow your research on a particular currency pair, and gather valuable resources for the two. Regularly look at current and historical charts, and monitor the news for economic announcements, as well as perform other technical and fundamental analysis.
3. Understand the quote
Since you will trade a pair of currencies, you will notice two prices for each currency. The difference between the first and the second rate is called the spread. That difference is the amount that a dealer charges for making the trade. However, spreads vary according to dealers.
4. Choose your position - buy or sell?
A buy position means you believe that the value of the base currency will rise compared to the quote currency. If you’re buying MYR/USD, you predict the price of the Ringgit will strengthen against the dollar. (The Ringgit is bullish and a bearish dollar)
A sell position means you believe that the value of the base currency will fall compared to the quote currency. If you’re selling MYR/USD, you predict the price of the Ringgit will weaken against the dollar. (The Ringgit is bearish and the US dollar is bullish).
Here’s an example:
A buying position
The current price for MYR/USD is 1.3555/560. You believe that the Ringgit is bullish, so you enter a buy position for one lot or one unit of the MYR/USD. Your trade is priced at 1.3555.
Later in the day, the MYR/USD is now at 1.3888/180. Your trade has gained 333 pips, and you opt to close your position at the current sell price of 1.3888 and make a profit.
A selling position
Let’s say the Ringgit is bearish, and you decide to enter a sell position for one lot or one unit of MYR/USD. Because you are selling, your trade is at priced at 1.3555/560.
Later in the day, the EUR/USD is now at 1.3888/180. Your trade has lost 333 pips. You close your position at the current buy price of 1.3555 and accept your losses.
Pros and cons of forex trading
For some, forex trading is a form of side income to help bolster their overall income.
1. Extra source of income
In these difficult and challenging times, having the ability to procure extra side income may go a long way for many of us. “Forex is something you can do on your own, manage on your own, at your own time, whether you are at home or anywhere else in the world,” he said.
2. Low barrier of entry and transactional costs
Unlike trading stocks or investing in unit trusts, forex trading does not require a large investment to get your feet off the ground. “You can start small and scale, it is not something that requires like US$10,000 or US$1 million. You can get in with a couple of hundred dollars or a couple of thousand dollars,” Jin said. There are options to open a mini or micro forex account with as little as $5. Similar to robo-advisors, forex trading also has a low transactional cost for the brokerage and commissions charges.
The forex market is open 24 hours a day, five days per week, meaning it could fit easily into your schedules compared to other tradings. Opening a forex account is quite easy for individual traders; you can set it up within one to three days. Most brokerages can be done online and traders have access to real-time market pricing, price charts, tools and more through online trading platforms.
As we have said before, the forex market is the largest market globally by volume. This means there is high liquidity, especially in major currencies.
5. No central exchange
Because companies need to report dividends and huge profits or losses as stipulated by law, their performance could drastically affect the stock prices on the exchanges. But forex trading operates differently and has no such central entity and no regulators.
This decentralised and deregulated feature of the forex market also eliminates any possibility of insider trading as market movements depend solely on global factors and developments.
1. Decentralised and deregulated
Similar to Bitcoin or cryptocurrencies, the world of forex trading is dominated by brokers and not by market regulators. Without proper regulation, there is not enough incentive or push for brokers to be fully transparent with traders. This could lead to lack of transparency on matters such as quotes, prices, or orders.
No asset class is completely sheltered from volatility and the forex market is no different and maybe riskier. Getting exposed to unexpected and extreme volatility at times can affect a trader’s trading strategies.
3. Small retail traders may be at a disadvantage
From the more than RM20.2 trillion traded daily on the global forex market, the bulk is transacted by big players such as banks, hedge funds and other large financial institutions. So smaller retail players may be at a disadvantage compared to these players who have greater access to information and technology, giving them the upper hand at influencing price movements in the market.
If you are interested, reach out to a forex trading expert for more insights
Our article is pretty much the tip of the iceberg on what the forex trading industry looks like - there’s so much more about the market and industry to be digested before one goes straight into it.
On top of that, being decentralised makes it a double-edged sword because the lack of regulation could leave smaller players more vulnerable to scammers and dishonest people who just want to dupe and take advantage of curious investors.
If you are still curious about forex trading, stay tuned as we dissect the best forex brokers in Malaysia in our next forex-related article.
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