FX trading allows for the use of leverage of up to 50-1, meaning that you have the ability to control a large amount of one currency using a small percentage of its true value. While the use of leverage is a double-edged sword that can work against you as easily as it can work for you, it creates greater opportunity to profit when used prudently.
7. Carry trading
FX transactions are quoted in pairs because you are buying one currency while selling another. The first currency quoted is the base currency and the second currency is the quote currency. The price, or rate, that is quoted is the amount of the second currency required to purchase one unit of the first currency. When holding an FX position you earn interest on the currency you hold vs. the other currency in the trade. To put on a carry trade, you buy the high interest currency against a low interest one. For each day that you hold the trade, you earn the interest difference between the two currencies.
8. No fixed contract size
While currencies can be traded on an exchange as a future, retail customers also have access to a thriving off-exchange over-the-counter (OTC) FX market. Access to the OTC market has key benefits, including the lack of set order sizes.
9. No commission fees
There should be no transaction fees beyond paying the cost of establishing the spread. While this can be more than commissions on futures, most FX accounts trade without commission and there are no exchange fees or data licenses. The cost of trading is the spread between the buy price and the sell price. This does not change the fact, however, that there are no rules about how a dealer charges a customer for the services provided or the amount that may be charged, should you choose to use a dealer. Dealers who are regulated by NFA must disclose their charges to retail customers, so be sure to check with your dealer before opening an account exactly how you will be charged for your trades because it can work out to be higher. You should pay no more than two pips on majors.
10. Ability to find talent
When Congress required firms acting as counterparties to retail FX transactions, as well as FX pool operators, CTAs and IBs, to register with the CFTC and become members of NFA, it took an important step in safeguarding the integrity of the FX marketplace. Before this legislation was in place, the FX market attracted unqualified individuals seeking customer funds, given the lure of the largest actively traded market in the world (measured not only in terms of market breadth but also in terms of the number of participants).
Years ago traders would post outlandish returns on the Internet and attract investors. Perhaps most crucially, NFA registration requirement means that potential investors can look up any counterparty on the NFA’s website and conduct a simplified background check through the NFA’s “Background Affiliation Status Information Center.” This search will reveal key information, including former employers, disciplinary history and involvement in NFA arbitration cases.
It is best to only work with NFA-registered firms and individuals who can give you access to their audited trade history and disclosure documents.
Gone are the days where the forex space was the exclusive dominion of big banks and major investment firms. Retail customers now have access to this marketplace that provides investors with important diversification, market exposure and significant levels of liquidity. While the exact size of an allocation should depend on a number of factors, including risk appetite, it is generally advisable to allocate 10% to 20% to alternatives including forex. Whether your goal is to execute a carry trade to lock in interest rate income or an allocation to a CTA, investing in forex is certainly something that you should consider.
Christopher Gersch is founder and Director of Portfolio Management at Altimus Capital LLC, a Chicago-based hedge fund specializing in algorithmic trading. He previously was Director of FX at RCM Asset Management.