Article: Why Trade Forex? Advantageous and Disadvantageous

Hello,

Here another in my ‘series’ of articles for new traders:

Why Trade Forex? Advantageous and Disadvantageous | TradingMarkets.com

Regards,

Dale.

Excellent article find [B]Dale[/B].

Great for aspiring forex traders!! :slight_smile: :slight_smile:

Another good read with information useful for those getting started. Thanks for the post.

I did the math on Forex versus futures versus stocks, and came up with the following conclusions:

If you have a small account (less than 10,000), Forex is the best by far and large because of variable contract size (full, mini, micro, nano). You can trade FX for the smallest sum of money if you want, and it is equally easy to do intraday and swing trading.

Leverage in Forex is the strongest, by and far, and if the CTFC reduces it to 10:1, it will be about the same as futures. Stocks have the least leverage (4:1 if you have the pattern daytrader margin account which requires 25K maintenance, 2:1 for standard margin).

Metatrader is the best free charting software I have come across, ever. I haven’t seen anything comparable that is free for futures or stock trading.

Stocks and futures have volume indicators, Forex does not.

The case of spread and commissions on futures versus the spread on Forex is tougher to calculate, it depends on whether its a dollar pair or a cross (something like AUD/NZD has an 11 pip spread!)

Spread on index futures is one tick ($12.50 on the ES), and the commission is about $5 per round trip per contract, exch. fees included. A 2 point move equals $100. The spread and commissions on a 2 point move reduces profitability by 17-18%.

With Forex, 1 ES point is roughly worth about 8 dollar denominated pips in a dollar pair (I tracked the size of several correlated movements in the Euro vs ES). Spread on the Euro and JPY is about 2 pips during peak liquidity hours. If we allow that 8 pips = 1 ES point, and 16 pips = 2 ES points, with a 16 pip move our spread eats about 12.5% of our profit - that’s about 5% less than with ES futures.

If we are trading crosses, the picture gets more complicated and the ES/YM might be a better deal (although the Euro works out even better).

This is all academic thinking, of course.

Either way, for a beginner with a small account, it seems the FX market is the best. Sure you can open up a futures account for $5,000 or even less, but based on all my homework you really need $8-10K per contract to play the ES scalping game right, even if you’re just a 2 handle a day guy.

I haven’t analyzed how stock scalpers do by comparison. The spread is much smaller (just 1 penny on liquid stocks) than with the futures, but the commissions are very variable. When you combine that with the leverage issues, meaning you need more capital to trade for the same profits, its tougher to compare.

Now maybe I’ve just done a great job comparing apples to oranges, but it is interesting to do some academic thinking.

My one big question is if futures have the same stagnation problem as currencies do after 1 PM EST? I would imagine London doesn’t influence volume as much on the ES as it does with the FX…

Good morning everyone (Saturday),

Thanks for the input. As I said: my intention is to post links to some of these ‘golden nuggets’ that I come across from time to time i.e. things that I myself would have found very helpful when I started out had somebody sent them to me.

TonyIommich:

Thank you so much for that post. This is ‘my type of discussion’!!!

(By the way: I’ve never ‘communicated’ with you but I read your posts and I’ve been meaning to tell you that it would certainly appear that we have the same taste in music if your username is anything to go by!!! LOL!!!).

There is a point (or two) that I’d like to make here (sort of ‘playing Devil’s Advocate’ as it were):

Is THE VERY REASON that an individual can open a live FOREX trading account with the absolute minimum of capital requirements also not THE VERY REASON why many (most???) will fail??? Minimal capital requirement, extremely high leverage, no commissions (in most cases), low (no) spreads: all ‘advertising gimmicks’ in my opinion (my colleagues overseas are going to ‘shoot’ me when they read this)!!! LOL!!! Of course: having LOADS of capital is also no guarantee of success (I’m ‘living proof’ of this as we all know). I just think that these are the types of things that are not fully explained to new traders and the reason that ‘the masses’ are attracted to trading forex as opposed to stocks, bonds, commodities, futures, etc.

On the other hand: I guess if you don’t have vast sums of money to ‘throw in’ then forex trading is possibly the only way to get started in the trading business. Again though: it’s all ‘good and well’ for a broker to offer ‘nano’ lots but this is where ‘trading psychology’ will inevitably play a role in the demise of a new trader. I mean: it’s all ‘good and well’ for a new trader to be trading ‘nano’ lots and start ‘doing well’ in terms of PERCENTAGE gains BUT they may only be making $1 per day in REAL terms on, say, a $50 account. So what will (invariably???) happen??? As soon as it APPEARS that they’re ‘doing so well’ they will start to overtrade the account in an effort to ‘boost’ that $1 per day to $10 per day on the same account and, well, we know (invariably???) what the final outcome is going to be.

Some other personal thoughts:

I like the fact that equities (but for one example) have ‘fixed’ trading times. I’m still very uncomfortable with the fact that there are as many different FOREX DAILY CLOSING PRICES as there are brokers in different timezones. I honestly believe that if every single broker in the world closed their daily charts at exactly the same time then forex trading would not be nearly as ‘destructive’ for some. I mean: take a very simple trading system e.g. trading the two day (forex) high / low for instance. MY two day (forex) high / low is going to be VERY different from another trader’s (forex) two day high / low who trades with a broker in New York for example (due to the eight hour difference between brokers). To this day I don’t know how traders who trade candlestick patterns and chart patterns manage when trading forex. I’ve done this excercise MORE than once to ‘prove a point’ as it were. I can find a candlestick pattern or chart pattern on a particular forex chart at a particular broker and then go and look at the same forex chart at another broker in a totally different timezone and either the candlestick pattern or chart pattern is TOTALLY different or doesn’t even exist at the other broker!!!

Then of course there is one of my other personal ‘forex favorites’: ‘the Sunday bar issue’!!! Some brokers display a ‘Sunday bar’ and others simply combine Sunday’s data with Monday’s data and display one single bar for Monday. This affects indicator values, trading systems, ‘FOREX market psychology’, and WHO KNOWS what else!!! LOL!!! Not a ‘big deal’ some may say??? Just you try trading a 20-day or 55-day price channel breakout system!!! I’ve seen occasion where an entry price has differed by 300 pips trading the SAME forex pair on the SAME timeframe at two different brokers: the only two differences being that the two brokers were in different timezones and one displayed a ‘Sunday bar’ and the other did not. In this particular instance: a huge profit was made at the one broker and a loss was the result at the other broker. It’s no wonder that one trader can MAKE money using a certain trading system at a certain broker and another trader, trading the exact same system at another broker, can lose money (and this applies to system backtesting results as well).

I could ‘go on’ but I’ll stop here!!! LOL!!! I guess the point I’m trying to make really is that there are MANY ‘little things’ that a new trader must consider and be made aware of when starting to trade forex (‘little things’ that an equities trader need not concern themselves with).

Regards,

Dale.

This seems like a plausible reason for that many new to forex trading do fail. I’m new to forex trading, but I have some experience from trading CFDs on the margin which will help me down the road.

Hi knukk,

‘Welcome aboard’ as they say!!! LOL!!!

Don’t get me wrong: I’m not trying to be negative about forex trading nor am I trying to ‘put people off’ (I’d be ‘shooting myself in the foot’ if I were let’s face it). It’s just that there are so many of these ‘little things’ (as I call them) that almost never seem to be addressed and have cost me (and others) dearly. And these ‘little things’ do make a difference. Of this I’m sure about.

Personally: I’d love to see some forums opened here that are dedicated to the trading of stocks, bonds, commodities, metals, futures, etc. but there does not seem to be much interest in this. I’ll say this though: if the CFTC ‘comes right’ with their proposed leverage rules then equities trading etc. is sure going to become a LOT more popular and if this happens it would sure be great to have ‘our site’ i.e. BabyPips ‘ahead of the curve’ as it were. Sure: there are many sites dedicated to the trading of equities etc. but none seem to have the ‘camaraderie’ that is exhibited here on BabyPips (MOST times anyway)!!! LOL!!!

Regards,

Dale.

Good stuff man. I always enjoy reading your posts here.
For traders who use candlesticks this is why back/forward testing on the platform you decide to use with the strategy you decide on is VERY important. Daily, 8H, 6H and 4H bars differ with several brokers.

Hello,

Thanks. You and I have not ‘chatted’ for a very long while either!!! How are things going???

Yep: this really is an issue worth noting I believe. Put it this way: it is only on the 1 hour or shorter timeframes where the data will (should???) be ‘in synch’ worldwide and any candlestick patterns or chart patterns on these shorter timeframes will have ‘real meaning’ if you’re lucky enough or skilled enough to be able to make money on these shorter timeframes (which I’m not)!!! LOL!!!

Regards,

Dale.

Hi Dale! Its a pleasure to meet you, and thanks for liking my music - always a pleasure to know that my work is appreciated by the Forex community :wink: As you can see, I got sick of reuniting with Ozzy to make my money, so I decided this is a way better way of doing it. Even though I can play some mean riffs on my SG, I’m a total newb when it comes to candlesticks and fibonaccis…

I actually think in my experience most people head straight for stocks when it comes to trading, and when they hit the pattern daytrader restriction, they usually go straight for the eminis because they figure its stock related. A lot of people are actually scared of going into Forex because they often say that they don’t understand it at all.

Personally, this is exactly how I came to FX. I started wanting to trade stocks, realized I was undercapitalized (plus, I was afraid of blowing a large stake). Then figured that I could do futures on $2K (most brokers let you open an account with that much). Of course, I didn’t know that its suicidal to trade the eminis on that kind of capital. To take a 2 point stop, which is really the bare minimum, you’re risking 5% per trade, which is certain death for a newbie. You really need about 8-10K per contract. Plus there are all kinds of exchange fees, charting software is not free (unless you get the real crappy platforms some offer), etc.

One trader encouraged me to start with FX. At first I really didn’t want to bother because to me Forex was something that didn’t seem ‘professional’. I saw all these commercials for Forex trading education on CNBC and it just looked like one big scam. I heard that the banks really have an edge over you because insider trading is permitted, and that there is no regulation. But I didn’t want to put $10,000 on the line to play ES futures, so I figured if I can start an FX account with $25 and learn how to trade, without having to pay for live data, I’ll give it a shot.

I told myself that I’m going to have to master Forex first before moving onto futures and stocks, so I don’t get too distracted and don’t fall into the game of switching horses if I can’t get good at one thing. So I’m sitting here with FX - and quite frankly I realized that its just as possible to make money in currencies as it is in stocks and futures, so its perfectly alright. As a matter of fact I’m very grateful because FX has helped save me so much money in learning compared to futures and stocks.

As far as “dishonest markets” are concerned, I hear the same thing from stock traders who complain about specialists, market makers, and program trading, so I really don’t think its a big deal. You just learn to trade during peak liquidity hours, and if that’s not possible, trade from higher timeframes, and that’s all there is to it.

I think the people who start in currencies right away are usually those that don’t know anything about stocks or commodities. They just get lured in with the ads, many of them get smacked down hard, but a few survive and make it onto this forum :slight_smile:

I also must agree that this particular forum is awesome. I’m very glad to see people on here are friendly and willing to help. This is the total opposite of Elite Trader, which is a ground for immature morons and gamblers who love to insult each other.

I’m doing well, how’s things in Africa? I see you guys gearing up for the summer games. Its gonna be fun, I’m planning to come see a few of the games. It’s good to see you posting again.

Thanks!

Don’t get me wrong: I’m not trying to be negative about forex trading nor am I trying to ‘put people off’ (I’d be ‘shooting myself in the foot’ if I were let’s face it). It’s just that there are so many of these ‘little things’ (as I call them) that almost never seem to be addressed and have cost me (and others) dearly. And these ‘little things’ do make a difference. Of this I’m sure about.

It’s good that you do this. Traders that only focus on the upside are ignorant. This ignorance can come back and bite them in the ass pretty hard.

Yes, and the good thing about Forex is that you don’t have to get bitten real hard in the butt in order to learn. With stocks and futures its a different story - you have to put up months if not years worth of savings in order to try yourself out.

In my life experience, any entrepreneurial venture that shows the promise of money and/or status usually draws people like moths to a flame, i.e. the entertainment business. Someone shows up, thinks its a quick and relatively easy way to get rich and famous, and then they see the pain that is required to get there. At that point many of them simply give up and realize they don’t think its worth the bother - the result is not worth the pain. Some people take several tries to learn.

Those who stick around and succeed in my view are people for whom the value of success is worth the pain. To me, trading represents the potential to achieve the independence that I crave. There are other ways to get there, but trading seems best suited for my personality. That’s why I’m sticking to it.

An informative article dpaterso. Thanks.

Hello again.

TonyIommich:

You ‘got me to thinking’ about the capital requirements for trading forex versus equities etc. in your one post. So I just did a little excercise for myself here and tried to compare ‘apples with apples’. Take a look at my findings and your comments would (as always) be appreciated.

Using just my trading system (price channels):

10 000 units of EUR/USD will currently ‘cost’ me around $67 in margin. Leverage is 200:1. No commission payable. That will give me $1 per pip movement. The spread is 2 pips (which would cost me $2 of course). But here is where it gets interesting: my potential loss if stopped out would currently be around $555 (the system utilises HUGE stops i.e. 4 * ATR(14) from the entry price). Daily charts only by the way. By my calculations: if I’m employing the ‘2% risk management rule’ then theoretically I would need capital of around $27 750 to trade this ONE ‘mini’ lot!!!

Now take a look at this (using the exact same system):

1 Dow contract will ‘cost’ me around $103 in margin. Leverage is only 100:1. No commission payable. I get $1 per point movement i.e. same as the EUR/USD trade. The spread is currently 6 points (which would cost me $6 of course). BUT: my potential loss if stopped out would currently ALSO be in the same ‘ballpark’ as the EUR/USD trade i.e. $578 to be exact. Do you see where I’m going with this???

Now take a look at THIS (again using the exact same system):

1 S&P 500 contract will ‘cost’ me ONLY $11 in margin. Leverage (again) is only 100:1. No commission payable. Alright HERE I only get $0.01 per $0.01 movement in price. The spread is currently $0.60 (and that’s what it’ll cost me of course). BUT: my potential loss if stopped out would currently ONLY be around $64!!! Now if you multiply this by 10 so that you’re getting ‘proper value’ per point movement in the S&P 500 then the potential loss is around $640 (of course) i.e. again almost in the same ‘ballpark’ as the EUR/USD trade.

I could go on i.e. there are many other indices that I can trade that require even LESS than the S&P 500 with even LESS of a potential loss if stopped out.

I guess what I’m TRYING to address here (in my USUAL ‘long winded way’) is that trading forex pairs with high leverage does not necessarily mean that a forex trader requires less capital than an equities trader. Obviously: the figures quoted here are dependant on the trading system being used i.e. another trading system may require W-A-Y less capital because the stops may not be so far away but I THINK that my ‘logic’ here is correct. In other words: the trading system is a ‘given’ and a ‘constant’ in my comparison.

Regards,

Dale.

What I’m not getting at is where does the Dow allow you $103 in margin? The Dow’s intraday margins are actually somewhere around $3200 for initial, about $2500 for maint. S&P’s are in the area of $500.

Emini S&P’s are 1/10th the size of the full sized S&P contract, but they are not leveraged per say, they are a fractional size of the contract. Its like the difference between a whole pip and fractional pips - if I’m getting this right.

Hello and thanks for the reply.

I actually don’t have an answer for you though i.e. I just used the figures that I got from my platform. Come to think of it now: I know of at least one broker where you can trade all three of the major indices and the margin requirement is a straight $50 per unit and you still get $1 per Dow point. That being said: it’s been ‘proved’ that this broker to which I am referring (the $50 per unit one) is a ‘bucket shop’ at BEST so I don’t know if that’s how they’re able to offer these trades.

OK: I’m talking about FUTURES contracts here but would that make any difference to the margin requirements??? I don’t know myself.

Let me ask you this: what dollar value per Dow point do you get when laying out $3 200???

I’m guessing here but maybe I’m not supposed to be referring to these things as ‘contracts’ but rather as ‘units’??? Maybe that’s the reason for the large discrepancies in margin requirements??? Again: I’m not sure.

Regards,

Dale.

The margin requirements are set by the CME, brokers can set greater margins but they can’t set smaller ones.

Maybe the broker you are using further breaks up the contracts and creates a separate market in them, in effect creating a derivative product of sorts. Sort of how FX shops have dealer desks where they create micro and nano lots. I didn’t know that was legal in futures.

The dow gets you $5 per point (they don’t have ticks), the emini S&P is $50 per point, $12.50 per tick.