Traditionally a broker would work for you as a client, placing your buy and sell orders for you through their dealing desk and charging commission (for stock exchange transactions) or making their money from the spread (the difference between bid and ask prices) for forex trading. At one time orders would be placed by telephone. Now they are placed online, with you in full control of your account.

But standard forex accounts require significant investment. Typically the minimum deposit is anything from $10,000 to $50,000. Now that forex trading can be done from home, there are many new services springing up with lower deposit requirements, offering forex mini accounts. But their business model is not necessarily the same as traditional brokers, and this can have implications for you.

So these days, there are other types of companies that operate in different ways in order to provide services to the smaller investor. Most of these do not have dealing desks of their own.

Forex NDD (No Dealing Desk)

Brokers without a dealing desk communicate with external liquidity providers to provide prices and match clients’ trades. Because there is a range of liquidity providers, the real spread tends to be small but the broker may increase the spread to give themselves a reasonable profit margin.

Forex ECN (Electronic Communications Network)

ECN brokers provide a marketplace where many market users including banks, market makers and regular traders can see to have their trades filled. Trades will be entered in the name of your ECN provider for anonymity. Spread is generally small but the ECN will often charge a matching fee per trade.

Forex Market Makers

When you have an account with a market maker, your trades are not being matched by external providers but by the market maker themselves. This means that they take the opposite position and offer their prices to you, although of course these prices relate to the current price in the market. They will then offset their risk by taking an equivalent position to yours in an ECN or other environment.

Since they are not actually placing your order in the market, market makers are not brokers in the true sense of the word although most traders use the term forex broker loosely and include them. Others consider that the difference between market makers and bucket shops is not clear and prefer to avoid them.

Forex Bucket Shops

Bucket shops work a little like market makers but they do not offset their risk and may have very little connection to the real spot forex market. When you deal with a bucket shop you could be said to be betting against them. They oppose your trade and they profit by your loss. Like commercial bet takers, if you are successful they tend not to want your business and will probably close your account, returning your funds to you.

Bucket shops are illegal in some jurisdictions, and even if they are legal in your country, they are best avoided, certainly for beginners. A bucket shop is working against you, not for you, and is not a forex broker at all.

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So in this article we look at some of the major pitfalls of forex trading and how to avoid them.

1. System hopping

One surefire way to lose money with forex trading is trying a system for a few days and giving up on it because it made a loss or two. Before you even start using a system you should be as sure as a person can be that it is going to be profitable. You have to accept losses and stick with it.

Remember that if you bail out every time that you are losing, you never give your systems a chance to put you back into profit. You will lose your shirt for sure if you hop from one system to another without giving anything a chance to work.

2. Dwelling on ‘what might have been’

One of the worst temptations of trading is being drawn into wasting time and energy on thinking about how much we could have made if only we had acted differently. Often a situation will arise that does not quite meet the requirements of your system. You wait, and perhaps it turns out that you could have made a lot of money if only you had acted.

But thinking this way is dangerous. Another time the same situation will turn against you. We tend to remember all of the lost chances to win and forget that by keeping to the plan, we also miss a lot of losing situations.

3. Impatience

You will lose money if you do not have the patience to wait for the right trading opportunity. A short run of losses can make us feel desperate for a successful trade, but we must still wait for the right market signals. Do not be led into acting too soon by excitement or the fear of missing an opportunity.

4. Hesitation

On the other hand, it is also important not to hesitate too long. When the right moment comes along, act with conviction. Have your plan written down and keep it in front of you at all times so that you know exactly when the signs are right for your trade. Do not wait until you see a trend forming to start thinking about your position size, leverage or stop loss. Everything should be in place so that you can take advantage of a genuine opportunity.

5. Letting emotions drive your trading

We all know the danger of letting our emotions lead us in any trading situation, at least in theory. In practice it can sometimes be hard to tell the difference between fear and caution, or between profit maximizing strategies and greed. Having a written plan will help again here, as will training with a demo account where emotions will not be nearly so strong.

Some people find that they cannot make money with a demo account because they are getting into experimental trades, telling themselves that it does not matter because it is not real money. If they do then start trading with a real account they are completely unprepared for the emotional punch of real time trading and have not learned any discipline to help them handle it.

So whether you are trading in demo mode or for real, take it seriously. Be sure to avoid these traps if you want to make money with FX currency trading.

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Scalping is a tactic that relies on making small, quick trades to exit with a profit not many times the size of the spread. In fact generally anything more than 3 times the spread is not considered scalping at all. Scalpers are aiming to move in and out of the market in just a few minutes, or sometimes even less than one minute. They plan to do this many times in a day to achieve many small profitable trades adding up to good profits over the course of time.

The first problem for all forex scalpers is finding a broker who will allow you to do this. Brokers, even if they are not deliberately taking a position against you, often have some time delay before they cover your position in the open market. This may only be a few seconds to one minute which is not significant with long term trading but can put them into a loss position with successful scalpers who may close their trade before the broker has covered it.

But assuming that you are hooked up with a broker who will accept your EA working in this manner, why does it happen that sometimes the EA itself starts to foul up the trading?

One reason is that some EAs have been based around indicators that lag, such as moving averages. It should be obvious to anybody that if you are trading on small price movements you need to react very fast to new trends and a lagging indicator is not the best to use.

However, while the market was relatively stable with slow moving trends, it was possible to profit from scalping tactics even with lagging indicators. This pattern may continue for several years, long enough for many people to believe this is a genuinely possible system and certainly long enough for scalping expert advisor software to be developed to implement these strategies. 

But sooner or later the market will enter a more volatile period. This may only happen every 7-10 years but when it does, lagging indicators become useless for scalping techniques. It is better to use indicators such as Bollinger bands which do not rely on measuring movements over such a long period in the past.

So if you want to continue scalping during times when the market is particularly volatile, you should ask questions about the basis of the software that you are thinking of buying and look for a scalping expert advisor that does not rely on lagging indicators.

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If you do not have a plan for your trading strategies you will be making decisions based on the emotions of the moment which could be fear, greed, panic or euphoria. Decisions made from emotion will almost certainly not be good decisions.

First establish your goals and your boundaries. Do you have a clear idea of how much you might expect to make if your trading is successful? It will probably not be millions. Plan for a slowly increasing level of profits and start small. If you have big expectations you will be tempted to take big risks to try to meet your profit targets, and you could end up with nothing but losses.

Boundaries means risk. How much money are you prepared to risk when you trade forex? This should be money that you do not need for any other purpose. Are you confident enough that you have a good chance of making money with it, rather than losing it? Have you already been trading successfully with a demo account?

You also need to be clear about your position size for each trade. This means taking account of the consequences when a trade goes against you. This will certainly happen sometimes.

Your position size will also relate to your system. Some systems aim to provide a very high percentage of winning trades but losses are large when they happen; others have more losing trades but each loss is smaller. What are the chances of your system giving you two, three, or five or more losses in a row? You need to adjust your position size to provide for the worst that can be expected, because sooner or later it will happen.

A forex trader needs to remain as calm as a poker player and accept losses as well as gains. It is all part of the experience. Remind yourself that your trading system is based on sound analysis and if you keep to your trading plan you should profit. At all times you should know how much you have at risk, what is your potential gain and your potential loss, and where you plan to close the trade in both cases.

Your trading plan should also include how you will implement your forex trading system. What sources of information will you use? Which of the indicators are most valuable for your forex trading style? Where will you go for advice when you need it?

Foreign exchange trading requires a clear strategy that you can set out in a written plan. Remember, if you fail to plan you are planning to fail. You can modify your plan if it needs it, but do not change it while you have open trades. Never enter the market to trade forex without a clear trading plan that you know you can stick to!

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1. Keep Cool

Successful traders do not let their trading depend on their emotions or their emotions depend on their trading. They do not risk more because they are feeling lucky, they do not hesitate when the signs are right, or pull out of a trade too soon out of fear. Equally, they are unlikely to celebrate a gain, nor will they sulk, shout or kick the dog when they lose.

A person who is ruled by their emotions will not make it as a forex market trader. Self discipline can be learned but make sure that you have fully mastered your emotions on a demo account before you think of going live. If you are still taking unplanned risks you are not ready for real trading.

2. Think For Yourself

Different traders have different techniques. This means it there is limited value in getting advice from anybody else. In fact, unless you know that the person follows your system and techniques, their advice is probably worthless to you.

Do not copy somebody else’s system just because they seem to be making money with it. Do your own research and check everything that you are told. Even then, consider carefully before abandoning the system that you have chosen before. There may be factors that you have not taken into account. Something that works for somebody else will not necessarily work for you.

3. Keep Records

Keep a spreadsheet detailing every trade so that you can see patterns in your own results. You do not necessarily need to use it to change anything, but refer to it often to remind yourself of the many small trades that add up to success or failure.

What should you record? At a minimum, the currency pair, your position and the opening and closing prices. However, these bare facts will be much more informative if you can also add why you took the position. Did it fit the criteria of your system? What made you think that the trend would go your way? When you look back you will have a much better view of why your trading history is going well or not so well.

4. If In Doubt, Stay Out

Do not open a trade if you are hesitant or unsure about it, provided of course that you have a reason other than fear for your hesitation. A trade can only go one way or the other, so if it is not completely right, it is wrong. Wait. There will be plenty of better opportunities.

5. Limit Your Trades

Do not be drawn into thinking that you must never miss an opportunity. You do not have to be on top of a lot of different currency pairs and jump into every market regardless of what else you may be doing.

Limit the number of open trades that you have. It is not a good idea to have more than two open positions at the same time, and unless your first trade in the forex market is profitable you should not even consider opening a second.

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Signals are the main source of information for some traders who do not have the time, experience or inclination to analyze the markets for themselves but do not want to trust their trading to a robot. Equally they can be a useful source of additional information and trades for those who mainly make their own trading decisions.

You usually have to pay to subscribe to a forex signal service. Fees may be charged per month or per signal. Some companies offer a trial period where you can test their service on a demo account. If not, you will be paying out money from the start so to have a chance of making profits, you need to be trading at a level where you can expect to make more money from the signals than they are costing you.

The first thing that most people look at when considering forex trading signal providers is their recent results. This can be a mistake. Recent results are not as important as performance over the long term. So do not be seduced into signing up with a company who make a huge deal of their last month’s good results but will not tell you what their signals have made over a full year. Also remember that when they show their profits, they do not have to take account of the cost of the signal service itself.

Remember that most traders starting out in the forex markets lose money. Forex is a risky form of investment and you should be prepared for this. Losses are not always the fault of the information. Even if you are receiving profitable signals, you can make losses if you do not have a clear plan for managing your funds. It is very easy to take bigger risks than you should, so that an unexpected loss has a big impact.

Most companies who offer forex signals will send them to you by email and/or SMS text message. It is best to get both, although SMS alone can be enough for some people. The only problem with SMS messages is that it is very frustrating when one arrives and you are too far from a computer to access your account. If you are a serious forex trader relying on signals, you may want to get your PDA hooked up to your trading account so that you can deal with those signals that arrive when you are stuck in traffic or having lunch with a client.

Remember that the foreign exchange is a 24 hour market. Be prepared to be woken in the middle of night by your cell phone bleeping with an SMS that you need to act on right away. You may want to check how your spouse feels about this too. Even the best information from the top forex trading signal companies is probably not worth getting a divorce for!

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The letters of its name stand for Moving Average Convergence Divergence. It is true that the name sounds rather complicated and unfortunately this is often enough to put people off from wanting to know more. So they only use the very simplest applications without understanding the power of the tool itself.

Like most forex tools, this indicator is used to show us when a new trend is forming, so that we can get in on it and make money. The MACD does this by plotting the relationship between two moving averages.

Settings

The settings are usually expressed as three numbers. Commonly you might see 12,26,9.

Traders using FX technical analysis often make the mistake of thinking that the first number on the MACD indicator (12 in this example) relates to the faster moving average line, the second number (26) relates to the slower moving average line and the third number (9) relates to the histogram at the bottom of the chart. That is not quite correct.

In fact the first two numbers (12 and 26) indicate the number of periods used to calculate two moving averages. The faster moving average line, which is often green on the chart, measures the moving average of the difference between the 12 period and the 26 period moving averages.

The slower moving average line is often red on the chart. This line plots the average of the last 9 (or whatever is the third number) periods of the faster moving average line. It usually shows smoother curves because its effect is to smooth out the fast moving average line.

Divergence And Convergence

The histogram that measures convergence and divergence is the series of blocks stretching above and below an axis near the bottom of the chart. This simply records the difference between the faster and slower moving averages.

As the two moving averages separate from each other (diverge), the blocks of the histogram will become longer. As they get closer (converge), the blocks become shorter. If the two lines cross, the blocks of the histogram will switch from stretching above the line to dropping below it or vice versa.

So the histogram measures the convergence and divergence of the two moving averages. And that is why this tool for FX technical analysis is called a Moving Average Convergence Divergence or MACD indicator.

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The actual calculations are complex but fortunately you do not need to do them because most trading software will do this automatically for you. This means that you should be able to access the indicator plotted on a chart in your forex brokerage account.

The stochastic indicator will give you two lines that usually run fairly close together:

- the line called %K gives a comparison of the last closing price to previous closing prices.

- the line called %D smooths out the %K line and can be used as a signal line.

So what does the stochastic indicator actually tell you, and how can you use it to make money?

Using it is quite simple. It gives a signal that a market is overbought or oversold. In other words, it will tell you when a trend should be about to reverse, according to the basis of their calculations.

If both lines are high, this is a signal that the market is overbought. If you are trading forex on the basis of this indicator you would put in an order to sell.

Conversely if both lines are low, they are telling you that the market is oversold and you could put in an order to buy.

Keep in mind that you should not trade on the basis of one indicator alone, but always seek confirmation from at least one other.

You will normally have horizontal lines on your charts marking the high and low points for you so that you can see at a glance when to act. In many cases you can alter the position of these lines to suit your trading style. The most common settings are 70, 75 or 80 for the high line and 30, 25 or 20 for the low line.

If your settings are closer (70 and 30) you will want the stochastic lines to stay above or below your trigger lines for a longer time before you trade. If your settings are at 80 and 20, any movement above them would be a strong signal. Check this out with your own backtests to decide when you would be comfortable putting in an order.

Many currency traders also regard the relative positions of the two stochastic indicator lines as a signal for forex trading. They would buy when %K crosses %D line from below going upwards, or from above going downwards.

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The forex market is heavily influenced by national and international news and current affairs. This especially relates to financial news but other major events can have an effect too. These may be expected or unexpected.

For example a disaster such as a major earthquake or terrorist attack is usually unpredictable but could affect currency values. There is not much you can do about this except always to be sure to use stop losses.

A more predictable event would be the announcement that the Olympic Games will be held in a certain country. This could strengthen confidence in that country’s economy and lead to a rise in the value of its currency. At the same time the other major contenders for the Games may suffer a fall in currency values. So it is important for a trader to know when an announcement like that is expected, and which countries are involved.

Similar situations are the financial reports that are released almost daily in many countries. Less regularly, but usually foreseeable, there will also be announcements about interest rates, inflation, gross domestic product and other matters of national economic importance.

Try to avoid trading on rumors. You might see news reports or hear other traders speculating that an announcement will go one way or the other. Do not trade on the basis that they are right. First because they still could be wrong, and second because if it is such a sure thing, the price has probably already changed to take into account the rumors and you will not gain much even if they are right.

Do not forget that you are always trading on two nation’s currencies, not just one. If your own country is one of them, you will have much easier access to financial reports for that currency and it is easy to forget to check on events in the second country. This is particularly true for Americans because dollar news tends to dominate the forex alerts anyway. It is even more true if you are trading the dollar against a minor currency. You may have to take positive steps to ensure that your information is not one-sided.

Even if you are just beginning as a forex trader, it is important to keep in mind these aspects of fundamental analysis for the forex market. Exiting the market before any major announcement is usually the best move for a beginner. As you become more experienced you may develop a system based on this type of forfundamental analysis, but it is important to become familiar with all of the foreign exchange basics first.

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So there is not one top forex system that you must follow to profit from foreign exchange trading. However, there are some guidelines that apply to the way in which you approach your trading and these are true for just about anybody. I call them the golden rules of trading.

1. Follow The Trends

Most forex trading strategies and systems focus on identifying trends and there is a good reason for that. Whether the trend shows a rise or a fall, get in to go long or short as appropriate and do not go against it. Bucking the trend will see you losing money fast.

2. Safeguard Your Funds

Risking too much on one trade has been the downfall of many a promising trader. Never risk a lot of money on a single trade, however strong your feelings may be that this one cannot go wrong. They can all go wrong.

So how much do you risk? It depends on your strategy and how much it matters to you if you lose all of your funds, but never more than 5% of your balance. 2% per trade is a safer option.

Some people maintain the percentage as their funds increase, so that they gradually risk more in real terms on each trade. That is up to you but consider carefully before you do this. When you have more money in your account, you will probably be more unhappy if it is wiped out, so you may want to keep the same position size (reducing your percentage risk) as your funds increase.

3. Set Goals For Each Trade

Have a clear profit goal for each trade, so that before you enter, you have already decided when you will take the profit and close. Do not get greedy and try to stay in there for more and more.

In the same way, if it turns bad, do not try to hold on in the hope that the market will turn back your way. Cut your losses and get out. Using stop losses to do this automatically is a very wise strategy.

Those are the first three golden rules of currency trading: the guidelines that can help you develop profitable forex trading strategies, whatever your system.

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