Learn Forex Trading for Beginners

Beginner
Trading101
20 Lessons
20 Hours

How to Interpret a Forex Trading Account

Retail Forex traders open a trading account with a Forex broker for various reasons. Naturally, most of them come to the market to make a profit.

However, that’s not the only reason. Fame is another.

Forex trading isn’t the easiest thing to do. Very few retail traders end up trading for a living.

The truth comes from the sacrifices needed to succeed. But in the end, it is the same with every area, not only with Forex trading.

The advantage of Forex trading on other regular jobs is the uniqueness of it. No day is like the other, even though the economic events and the market interpretation is the same.

No rule says that if the price should act in a specific way, it will do that. Most of the times, the price action follows no logic.

Here are some examples:

  • Traders buy oversold levels and sell overbought ones with most oscillators. Yet, the market may stay in overbought and oversold levels far longer than the trader stays solvent.
  • A currency rises when the central bank raises the interest rate. Yet, the U.S. dollar fell most of 2017, despite the Fed hiking the interest rate level multiple times and the ECB (European Central Bank) keeping it in negative territory.
  • The NFP (Non-Farm Payrolls) beats expectations in the United States, yet the dollar fails to rally due to revisions to previous data.

In other words, the market is supposed to react in a specific way. Yet, it doesn’t necessary mean that it will.

This brings a sense of uncertainty and unknown, and the pressure on the Forex retail trader increases significantly. Not only technical and fundamental analysis matters, but also market psychology. And, above all, money management.

Elements of a Forex Trading Account

Retail traders are only a tiny fraction of the substantial daily turnover in the FX world. About six percent of the volume belongs to the retail traders.

The rest comes from big players or smart money. As such, the retail trader struggles to stay on the right side of the market. Or, to keep with the direction given by big players.

Like big players have money managers in charge of various trading strategies, the same thing applies to the retail trader. To survive, money management techniques help.

The starting point is to understand the elements of a trading account, its opportunities, and limitations. Therefore, right from the start, the trader must know what conditions to check on the trading account and the broker.

Leverage

Forex trading is a leveraged business. The broker lends the trader money to act on the interbank market.

The notion of leverage appeared because accessing the interbank market was too expensive for the retail trader. For example, if a trading account has a leverage of 1:100, it means that the trader moves on the interbank market $100 for every $1, assuming the account’s currency is the USD.

The leverage differs from broker to broker, as brokerage houses have different business conditions. Some brokers offer leverage even bigger than 1:1000 or more, while others prohibit such levels.

Standard leverage for a trading account is anywhere between 1:100 and 1:200, with the last one being the popular choice among Forex traders.

In some parts of the world, financial authorities intervened and put a cap on leverage. The SEC (Securities and Exchange Commission) in the United States strives for 1:50 as leverage.

In other parts (e.g., Turkey), the government intervened, and conditions are even more restrictive.

Anyways, the idea is that leverage is a risk, so the lower, the better for the customer. However, it restricts the opportunities too. Therefore, retail traders tend to look for a broker that offers high leverage.

Balance, Equity, and Free Margin

After depositing funds in the trading account, all the amount goes into Balance. Before opening any position (buying or selling a currency pair), the Balance has an equal value with Equity.

However, between the two, Equity is by far the most important one. It shows the real value of a trading account.

The reason comes from the fact that the changes in the value of a trading account will appear on Balance only after the trader closed a position. In comparison, the Equity shows the updated evolution of the account, from the moment the trade is open.

The Free Margin represents the money available for new trades. Quantity matters the most, as volume plays an important role in money management and the way traders interpret the trading account.

For example, on a $1000 trading account, buying or selling one or two lots on one trade will leave little or no Free Margin available. Moreover, even the smallest move against the position, will result in the broker closing the position automatically and the trader to receive a margin call.

The margin acts as collateral. The broker blocks an amount in the trading account depending on the volume traded.

When the trade reaches the take profit or stop-loss, the margin becomes free and available for other trades.

Spreads, Commissions, and Swaps

Knowing the direction the market goes isn’t everything in Forex trading. I mean of course, that everyone is there for the profit.

But, optimizing the profit matters more. Any currency pair has a bid and ask price.

It means that if you want to sell a currency pair, you can do it only from the bid price. If you're going to buy it, you will be using the ask price.

Assuming you went long or bought a currency pair, when you want to book the profit, or when the trade reaches the stop loss, the squaring value is the bid price. The difference between the ask and bid price represents the spread.

The bigger the difference is, the more it’ll eat from a trader’s profit. For example, if the trader has a target of ten pips on an EURUSD trade, but the spread is one and a half pips, the net profit is eight and a half.

Therefore, even though the trade was right, and the pair traveled the distance, the actual gain was fifteen percent smaller, because of spreads.

Every trade bears a fee. It comes in the form of a commission charged right from the moment a trade is opened or in the form of a variable/fixed spread. Swaps eat from potential profits too. That is, only negative ones.

For traders that keep positions open overnight, a positive or negative swap appears in the account. It represents a difference between the interest rates of the two currencies.

Nowadays, most of the swaps are negative. Therefore, if you have a longer horizon in Forex trading and like keeping your trades open, you must consider the swaps

Conclusion

All aspects mentioned in this article may look less important than the actual buying and selling. To some extent, they are.

But only integrating them all into a proper analysis will end up with traders profiting from all the opportunities this industry brings. More about how to choose a Forex broker and what makes a Forex broker in the future articles to come on our Trading Academy.

For now, merely consider Equity and leverage being crucial to a trader’s profitability. Focusing on them leads to avoiding every trader’s nightmare: the margin call.

Brokers automatically start closing positions when there is no free margin anymore, and the equity position shrinks towards zero levels. The higher the leverage is, the less money will remain in the trading account when the margin call arrives.