While forex is no doubt a popular trading destination for financial traders worldwide, it is not without its drawbacks. Wherever the potential of high rewards lies, high risks will be sure to follow suit, and the path to forex trading success will seldom be problem free. Let’s turn now to examine the disadvantages of trading forex, and the features of trading the forex markets that lend themselves to a greater risk to your capital. It’s vital to avoid these pitfalls to become a better trader and have a successful trading career.
Without doubt one of the core advantages of trading the forex markets, high degrees of leverage are also one of the biggest problems traders face. While leverage will get you more when the going is good, it will hurt you equally severely in the bad times, and it just takes one ill-judged position to do significant damage if you’re not careful. Leverage of up to 500:1 is far riskier than other financial markets. Just because the high leverage is there, it doesn’t mean you have to use all of it for every position you take, treat it with respect and you’ll have better trades.
24/5 Trading Market Risk
While markets being open around the clock opens the door to new and potentially exciting opportunities, it can also mean you have a much greater market risk to absorb. Market risk is the inherent risk of being exposed to the markets, and if your exposure to the markets is stretched out to cover 24 hours a day, so too is the risk inherently posed by the market. In a nutshell, because your positions have the capacity to run on over a longer cycle, this does increase the risk of the market reversing in the immediate future. Also, from a purely logistical point of view, managing positions around the clock may well pose practical difficulties for traders with families, jobs or a fondness for sleeping. Don’t trade just because the markets are open and try to make sure you have the right balance in life.
Low Volatility At Quiet Times
The low volatility of the market means that traders are effectively forced into highly leveraging in order to get a return. Were there more volatility in the forex markets, leverage could be scaled down as a proportion of transaction sizes, which would have eliminated some of the risks faced by traders. Instead, forex traders must cope with the risk profile of super-highly leveraged positions which can cause serious damage if the market reverses. For example, forex markets tend to be very quiet 8pm – 12am (UK time) as European and American markets are closed and Asian markets are not open yet, thus there’ll be barely any market movement which might impact your trading (depending on your trading strategy).
Dangers Of Interventions
Currency markets in particular are also subject to interventions from governments and central banks that cannot be controlled by traders and in some instances are not publicly declared to traders beforehand. This can have the effect of making currencies at times unpredictable and highly volatile, and poses a greater risk to traders than first meets the eye. For example, if a central bank decides to free up more of its currency to deflate its value, this could affect prices by creating an overarching downwards trend that might not necessarily be highlighted in your research, it’s important that note that most of the intervention are discussed and priced before the announcements, some interventions might come unannounced.
Disadvantages Of High Price Volatility
Forex markets might be subject to high volatility during the news announcements and forex traders should be prepared for this eventuality. To avoid the danger of such wide swings traders should make use of stop-loss and stop-limit orders to minimise the risks.
On a final note, it’s imperative to know the disadvantages and pitfalls of forex trading and be prepared for whatever fx markets might throw at you. Every financial instrument has its own risks and drawbacks and it’s the understanding of those hidden dangers that gives experienced traders an edge.