More often than not it’s from someone looking for a quick, easy and surefire way to get rich quick. As if such a thing even exists!
Answering the question whether forex can make you rich with a simple “Yes” or “No” isn’t quite that simple. Of course, money can be made through foreign exchange trading, especially if you’re a hedge fund with access to large pools of capital. For your normal retail forex trader, the truth is another story. Forex trading is a far riskier, difficult and complicated business than many average traders would like to think.
The truth is that (most of them at least) are not. Statistically upwards of two thirds of traders report net losses through the trading of foreign currencies. Even those who fall outside of this 66% or so are not necessarily getting rich through forex trading. And they are certainly not turning thick and fast profits.
A retail forex trader is someone who conducts transactions in the forex market not on behalf of an institution or organisation but on behalf of an individual or personal account.
Retail forex traders are usually the ones looking for a quick way to pull off a large profit, which is why it’s somewhat understandable that they turn to forex trading.
It’s important to know that while forex trading can make you rich in theory, there are substantial risks that need to be understood and taken into account. Especially when your funding is limited.
Leverage in forex trading magnifies the potential gains associated with profiting in a trade but it also magnifies the mirror losses as well.
Due to the nature of leverage, the allure of maximised profits is intense but it comes with a high degree of risk for significantly sized losses.
High reward equals high risk. Most forex traders lose money and some even lose huge amounts of it due to excessive leverage.
The issue of excessive leverage has become substantial enough to have stirred some regulators around the world to tighten trading laws around it. However, there is still significant exposure when forex trading.
When you compare the stock market to the foreign exchange market, the volatility of currency prices comes into stark focus. Sudden, unexpected and unpredictable events can shake the market from top to bottom and cause significant changes to currency prices. While this is true of other markets as well, the forex market is particularly prone to unforeseen changes.
This makes reacting in time to the changes very difficult indeed. Institutions are better equipped for these sorts of events, but more on that below.
Making the right calls when trading and knowing when to buy and sell is one thing, but even if your calls are spot on--be them long or short trading--you’re limited in your ability to profit or by the trading platform at your disposal.
Unfortunately, system failures and malfunctions are not unheard of amongst forex traders. Whether this is due to system overloading, loss of electricity or a single computer crashing, if you’re unable to close a trade you’re unable to cash in when the timing is right. Even slight delays can prove costly if a transaction doesn’t go through in time.
Even traders with stop-losses, which are designed to limit the amount lost by automatically selling when the price drops to a specific point, can be held back by the intensity and swiftness of the volatility in the forex market.
Many retail forex traders fail to get rich through trading because they hold on to losing positions for too long. Why would you hold on to a loss?, you ask. Often the desire to avoid making even a small loss causes traders to err and hold on to the losing trade for even longer. This, of course, results in a more substantial loss and can often be higher than the investment put in initially.
Experienced and large traders operate in the opposite way: they offset their small losses with sizable gains wherever and whenever possible. Though it should be noted that doing this is significantly easier for large financial institutions.
Pitted on the other side (though not against necessarily) retail forex traders are institutional traders. Often these massive institutions have rigorous and highly sophisticated trading systems put in place to give them a competitive edge on information relating to world currencies.
Often this information and their sources are not available to a regular retail trader. This asymmetric information only compounds the risk of making a loss. As a crude and limited analogy, it would be like playing Poker against someone who has a pretty good idea what the next cards are.
Another differentiation between stock exchanges and the foreign exchange market is that forex trading is conducted “over the counter”. These trades are neither centralised nor regulated which increases the risk that one party will default on the transaction. This is known as counterparty risk. Small retail traders are particularly vulnerable to this risk due to the lack of institutional guarantees in OTC forex trading.
While perhaps not considered common, fraud, manipulation and shady deals have been known to occur. Bad actors are likely behind most cases of fraudulent transactions and mismanaged or disappearing investor funds. But even big and reputable banks have been known (and subsequently fined) for artificially seeking to manipulate exchange rates.
As a sole or small forex trader, this additional risk in a decentralised and unregulated marketplace can be devastating financially.
So why are forex traders rich? Or at least, why are some traders rich?
Probably because they haven’t entered the forex market trying to make a fast buck or get rich without trying. The successful retail forex traders are likely to know how to limit their leverage, ensure smooth and quick transactions (including stop-losses) and use a tried and trusted brokerage firm.
If you’re interested in learning more about how forex trading can and can’t make you rich, we welcome you to speak to our trading experts at Global Prime. You can find more information here about the forex services we offer as well!