A forex trader is a person or firm that buys and sells currencies to profit from changes in exchange rates. Forex, short for foreign exchange, is traded in currency pairs such as EUR/USD, GBP/USD and USD/JPY. In a quote such as EUR/USD at 1.1000, the number shows how many U.S. dollars equal one euro.
A forex trader does not buy a currency on its own. Each transaction buys one currency and sells another. Buying EUR/USD means buying euros and selling U.S. dollars.
Forex Trader at a Glance
| Question | Answer |
|---|---|
| What does a forex trader trade? | Currency pairs, such as EUR/USD |
| What is the objective? | To profit from exchange-rate movements or reduce currency risk |
| Where are trades placed? | Usually through a forex broker or dealer, often in the over-the-counter market |
| What affects profits? | Price direction, leverage, spreads, commissions, financing costs and execution |
| Can traders lose more than they deposit? | In some leveraged forex arrangements, losses can exceed the initial deposit |
How Does a Forex Trader Make Money?
A forex trader makes money when the exchange rate moves in the trader's favour by more than the spread, commission, financing costs and other charges.
- A trader buys EUR/USD when expecting the euro to strengthen against the U.S. dollar.
- A trader sells EUR/USD when expecting the euro to weaken against the U.S. dollar.
- The result also depends on the size of the position and the distance the exchange rate moves.
If EUR/USD rises from 1.1000 to 1.1050 after a trader buys, the position has gained value before trading costs. If EUR/USD falls instead, the trader loses money.
What Is a Currency Pair?
A currency pair shows the value of one currency compared with another.
In EUR/USD:
- EUR is the base currency.
- USD is the quote currency.
- A price of 1.1000 means one euro is worth 1.10 U.S. dollars.
Forex traders assess economic data, interest rates, inflation, central-bank decisions, employment figures, political developments and market sentiment when deciding how currency prices may move.
What Does a Forex Trader Actually Do?
A forex trader analyses the market, sets a risk limit and decides whether to place, monitor or close a trade. A typical process is:
- Select a currency pair.
- Analyse economic or technical information.
- Decide whether to buy, sell or stay out of the market.
- Choose a trade size and risk limit.
- Place an order through a broker or dealer.
- Monitor the position.
- Close the trade manually or through a preset order.
Some forex traders make decisions manually. Others use automated trading systems, algorithms or signals. Automated systems can add risk when a trader misunderstands the settings or incorrect data triggers unintended trades.
What Is the Difference Between a Forex Trader and a Forex Broker?
A forex trader decides whether to buy or sell and takes the related financial risk. A forex broker or dealer provides access to a trading platform and executes trades or takes the other side of retail forex transactions.
In the U.S. over-the-counter retail forex market, a customer commonly trades directly against the dealer rather than through a central exchange.
| Term | Meaning |
|---|---|
| Forex trader | A person or firm buying and selling currencies |
| Forex broker or dealer | A company providing access, pricing and trade execution |
| Currency pair | Two currencies traded against each other |
| Spread | The difference between the bid and ask price |
| Margin | Money required to open or maintain a leveraged position |
| Leverage | The use of a relatively small deposit to control a larger position |
What Types of Forex Traders Are There?
Forex traders differ by the way they trade, how long they hold positions and whether they trade for themselves or an organisation.
Retail Forex Trader
A retail forex trader is an individual trading through a broker or dealer. Retail traders may trade part-time or full-time through online platforms or mobile applications.
Day Trader
A forex day trader usually opens and closes positions within the same trading day. This approach focuses on shorter-term price movements and may involve many trades.
Swing Trader
A swing trader generally holds positions for several days or weeks and aims to benefit from a broader market move.
Position Trader
A position trader holds trades for weeks, months or longer. This approach often relies on economic trends and interest-rate expectations.
Institutional Forex Trader
An institutional trader works for a bank, hedge fund, asset manager, corporation or another large financial organisation. Institutional traders may speculate, manage currency exposure or execute trades for clients.
Hedging Trader
A company may use forex transactions to hedge currency risk rather than speculate. For example, a U.S. company expecting payment in euros may use currency contracts to reduce the effect of an unfavourable exchange-rate movement.
What Is Leverage in Forex Trading?
Leverage allows a forex trader to control a position larger than the trader's deposit. It can increase potential gains, but it also increases potential losses.
A 2% margin requirement could allow a trader to control a $100,000 position with $2,000 in margin. A relatively small movement against the trader could therefore produce a large loss compared with the deposited amount.
The CFTC warns that leveraged over-the-counter forex trading can result in the loss of all margin and, depending on the agreement, additional losses beyond the initial deposit.
Is Forex Trading the Same as Exchanging Money While Travelling?
No. A traveller exchanging U.S. dollars for euros is converting money for spending.
A forex trader is trying to profit from changes in currency prices. The trader usually opens a leveraged position through a broker or dealer and may never take physical possession of the currencies.
What Are the Main Risks for a Forex Trader?
Forex traders face several risks:
- Leverage risk: Small price movements can create large gains or losses.
- Spread and commission costs: Trading costs reduce returns and can turn a profitable price move into a losing trade.
- Financing costs: Positions held overnight may incur charges.
- Counterparty risk: In over-the-counter forex, the dealer can be the customer's counterparty.
- Execution risk: Prices, liquidity and execution conditions can change quickly.
- Fraud risk: Unregistered offshore dealers and social-media promotions may promise unrealistic returns.
- Loss risk: The CFTC states that most over-the-counter forex customers in the period covered by its advisory lost money after fees, financing charges and other expenses.
U.S. investors should check a forex firm's registration and disciplinary history through the Commodity Futures Trading Commission and the National Futures Association before depositing money. The NFA's BASIC database provides registration, membership, disciplinary and financial information for futures and retail forex firms and salespeople.
Is a Forex Trader a Professional Job?
Yes. Forex trading can be a professional job when someone trades for a bank, fund, corporation or proprietary trading firm. An individual trading a personal account is also a forex trader, but trading does not guarantee an income or make someone a professional investor.
Retail forex trading is highly leveraged and is unsuitable for money a trader cannot afford to lose.