Other Forex Trading Risks

There are three other types of risks the Forex trader needs to be aware of:

1. Since Forex trading is done on credit, it's possible to lose your profits if one party in a Forex transaction declares bankruptcy. This risk can be minimized by dealing with regulated exchanges and brokers that are monitored for credit worthiness.
2. Variations in interest rates from one country to another can cause the profits of a Forex transaction to be less than expected. This is totally out of the trader' s control, but the resulting variations are usually relatively small.
3. Governments sometimes try to control the price of their currency by limiting the flow of currency. This kind of risk is unlikely with the major currencies but is something to keep in mind if you like to trade in exotic currencies.

Limiting Forex Trading Risks

Education and knowledge are the best tools for limiting Forex trading risks. Forex traders need to have a good understanding of the Forex and develop trading strategies which are able to react to expected and unexpected market movements.

Stop Loss Orders

As we mentioned above, the best way to limit your Forex trading risks is with the use of Stop Loss orders. Stop loss orders are placed when you enter a position. The Stop Loss order tells the trading software to exit your position when the currency price reaches a certain level.

Stop Loss orders work for both short and long positions. If you take a long position you are expecting the price of a currency to rise. A short position means that you expect the price to fall.

Here is an example:

You have been watching USD/CHF (US Dollars and Swiss Francs) and expect the price of the franc to fall. You place a Stop loss order to buy US dollars while simultaneously selling Swiss francs. Your order contains instructions to exit the position if the price of Swiss francs unexpectedly rises.

Buy: USD/CHF 1 standard lot 1.2083/88

(this means you buy USD 100,000 and sell CHF 120,880)

Stop Loss: 1.2078

(this means that if the price falls to 1.2078 you will exit your position and lose ~$100)

Conversely, if you expect the US dollar to fall you would sell US dollars and buy Swiss francs. Your order would look like this:

Sell: USD/CHF 1 standard lot 1.2083/88

(this means you sell USD 100,000 and buy CHF 120,830)

Stop Loss: 1.2093

(this means that if the price rises to 1.2093 you will exit your position and lose ~$100)

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One of the basic tenets of investment is this: Don't invest money you can't afford to lose. This applies equally to Forex trading.

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