History of Forex Trading
Among the retail traders using automated trading, forex trading is the most popular kind. In the last decade forex trading has widely gained popularity due to availability of electronic and web based forex trading applications and brokerage services. During the past decade, there has been a spike in number of online forex brokers offering forex trading to the retail traders.
What is Forex Trading?
In forex trading, currencies are traded based on the speculation of exchange rates with various currency pairs. For instance, based on the speculation, traders buy or sell currency derivatives such as USD/INR futures. The investors also hedge against the foreign exchange risk. Say, an Indian manufacturing company is expecting a payment of USD 1 M in 3 months but is unsure about the exchange rates at that time. To hedge their risks in rates fluctuation, they will buy future contracts which allow them to exchange 1 M USD into INR at today’s rate even if the rates at that time are much lower. To be able to do this a premium is often charged on the contracts depending on the forward curve.
Why is Forex Trading Popular Among Retail Traders?
Though forex trading is fundamentally different from equity trading, it involves similar concepts of trading. However, it is usually favourable among lot of retail traders because of the reasons listed below:
- It is a less volatile market: daily currency fluctuations are quite small
- Highly leveraged market: Up to 250:1 leverage can be expected on your investments. That means if you have invested 100 USD you can expect a return up to 25,000 USD. However, that also makes the markets very risky.
- Extreme Liquidity: This market is traded round the clock and is highly liquid.
Types of Forex Trading Strategies
Forex trading strategies can be from low to medium to high frequency trading strategies based on the volumes, capital and infrastructure one has. In high frequency trading strategies, a very popular strategy on forex instruments uses statistical arbitrage to identify trading opportunities based on market inefficiencies. Such opportunities do not last for more than a fraction of a second but the high speed systems can often use them on large volumes to earn profits.
For retail traders, medium or low frequency trading strategies are more popular and advisable. There are a lot of technical indicators which are used to identify the trading opportunities. A few of these indicators are moving averages (EMA and SMA), relative strength index (RSI), Bollinger Bands. These are most popular and talked about strategies.
There are other market neutral and trend following strategies such as pairs trading and turtles trading models, which can be used by medium frequency traders. Currency Futures and Derivatives Pricing models based on Greeks can be used to evaluate risks and get involved in forex options trading.
Automated Forex Trading Platforms
Most widely used platform for forex trading is MetaTrader4, also known as MT4. It provides its own automated trading platform with a propriety scripting language MQL4/MQL5 which is an object oriented language such as C++. MT4 also has in-built robots and strategies which can be used directly for trading. Starting automated trading in forex using any trading or back-testing platform requires certain knowledge and skill sets.
Learning About Forex Trading Strategies
Though retail investors can make profits using in-built technical indicators and robots on automated trading platforms, it is advisable to understand the science behind trading strategies to be able to understand the risks involved in the highly risky forex market. The strategies should be back tested on sufficient historical data and improvised based on various market conditions. It is very important to understand the underlying statistical and stochastic models behind these strategies to be able to tweak them for better risk controls and enhanced profits.