What Are The Biggest Risks Of Forex?
- Major risks include leverage, liquidity, volatility, and personal risks
- the higher the leverage level the higher the chance of losing all the deposited capital
- When market volatility increases the currency prices start to change very quickly
Types Of Forex Risks – Are There Many?
Forex risks explained: As with other financial markets, the Forex market also includes several risks.
Every investor who is interested in the foreign exchange market should remember that there are plenty of risks of Forex trading. Avoiding them might sometimes be extremely difficult. This is because it requires knowledge as well as experience of the financial market in order to assess the trading opportunities and potential risks that might occur at the given time. However, sometimes even professional traders can not foresee what might happen in the future and what direction the market performance can have. This is why in most cases they end up in a very unpleasant situation.
The biggest risks in the FX market are:
- Leverage Risk
- Liquidity Risk
- Volatility Risk
- Personal Risk
We will analyze each of them in a detailed way and find out what the best ways of avoiding them are.
Leverage is often confused with a boon rather than a curse. But it can be both. Usually the higher the leverage ratio the higher the probability of losing all of the deposited capital. Most of the time, investors forget that using this trading instrument does not only mean that it will help them generate a big amount of money, but also put their funds at great risk as well. This is one of the reasons why most countries heavily regulate the maximum amount of leverage their traders can get.
We advise newcomers to always be aware of how much leverage they are getting from their brokerage. If they believe that it’s simply too much to handle for their invested capital then it’s best to abstain from it. The risks in Forex double or maybe even triple once an unreasonable amount of leverage is undertaken by an inexperienced trader.
The most appropriate amount of leverage that is recommended to traders is between 1:50 and 1:200. Anything above that is considered “veteran territory” so to say.
Another type of risks of online Forex trading is Liquidity risk. Liquidity describes how quickly something a trader owns can be converted into cash. In Forex’s case, this is about the ability for a trader to close his or her trade. Because “closing” a trade means that you’re pretty much selling whatever you have. And in order to sell something, you need to have a buyer. If there are very few buyers, it means the liquidity is extremely low and it’s hard for you to liquidate a specific trade for example.
Generally, the liquidity risk arises when the immediate cash needs can not be satisfied due to the liquidity of an asset or due to market inefficiency. In many cases, the traders take the liquidity factor for granted and they underestimate the importance of the availability of the funds.
Even though the foreign exchange market usually has a high level of liquidity there are still times when the liquidity level turns out to be very low, this generally happens during the holiday season or the weekends.
Another noticeable Forex risk type is volatility. This is when exchange rates of currencies are moving way too fast and way too big for anybody to legitimately predict a specific level at which it will stop. At a time like this, traders are taking on massive amounts of risk just to try and get some profit out of the market.
Whenever prices are jumping in a chaotic way, it’s best to sit it out and wait for some kind of stabilization unless you’re ready to open and close 100s of trades a day.
Sometimes, the dangers of Forex trading can be the traders themselves. Mostly due to inexperience or ill-preparedness for what FX trading really is, Forex traders can be the biggest enemies of themselves.
Placing trades without proper analysis of the market, or maybe just following a trend they have nothing to do with are among the many things that traders can get wrong.
It is always recommended to go through some kind of crash course or have a mentor to guide you through the first steps of FX trading no matter how much you think you’re ready.
What Did We Learn With This Forex Trading Risks Article?
We learned that it requires knowledge as well as experience of the Forex market in order to assess the trading opportunities and potential risks that might occur in the future.
The main risks in the Forex market include leverage, liquidity, and volatility.
The most appropriate leverage ratio to use in Forex is considered to be from 1:50 to 1:200.
Volatility is an extremely dangerous time to be actively trading, which is why beginners are recommended to stay away from the market during such times.
Low levels of liquidity are tell-tale signs that a particular currency pair should be avoided.
Common Questions On Forex Risks
Why Is Forex Dangerous?
Forex trading is dangerous for various reasons, the major risk factors include leverage, liquidity, volatility, and the human factor. Most of these risks have to do with either the trader’s inexperience or an extremely hostile environment in the FX market at the time.
It is recommended that every beginner trader reevaluate their trading strategies should they see any of these risk factors pose an issue.
Is Forex Worth The Risk?
It’s definitely worth it. Many Forex traders are able to make a living by trading currency pairs on a daily basis. Naturally, they always evaluate the risks and make extremely smart moves to achieve these goals.
However, it is worth noting that only a small percentage of traders manage to reach such success, while most end up losing money in the markets. Be sure to always be prepared for such a scenario.
Is Forex Riskier Than Stocks?
Forex is not as risky as stocks if you’re trading with no leverage. The highest price movements that can be seen in the FX market are maybe one cent over the course of several months, while stocks could drop to half the price they were trading on a week before.
As long as leverage is managed and calculated, FX trading does not lead to as large losses as stock trading could.
Can You Lose All Your Money In Forex?
Yes, traders can definitely lose all the money in Forex. Like other financial markets, trading in the Forex market is also a very risky thing to do. In most cases, inexperienced people who do not do good research before depositing money in the Forex account lose all the capital.
However, this can be prevented by preparing yourself in the right way. This includes doing research, foolproofing your strategy, and maybe even having a few FX experts take a look at your trade decisions.