Forex vs. Equities
If you are interested in trading currencies online, you will find the Forex market
offers several advantages over equities trading.
24-Hour Trading
Forex is a true 24-hour market, which offers a major advantage over equities
trading. Whether it's 6pm or 6am, somewhere in the world there are always
buyers and sellers actively trading foreign currencies. Traders can always respond
to breaking news immediately, and P&L is not affected by after hours earning
reports or analyst conference calls.
After hours trading for U.S.
equities brings with it several limitations. ECN's (Electronic Communication
Networks), also called matching systems, exist to bring together buyers and sellers
- when possible. However, there is no guarantee that every trade will be
executed, nor at a fair market price. Quite frequently, traders must wait until
the market opens the following day in order to receive a tighter spread.
Superior Liquidity
With a daily trading volume that is 50x larger than the New York Stock
Exchange, there are always broker/dealers willing to buy or sell currencies in
the FX markets. The liquidity of this market, especially that of the major currencies,
helps ensure price stability. Traders can almost always open or close
a position at a fair market price.
Because of the lower trade volume,
investors in the stock market are more vulnerable to liquidity risk, which results
in a wider dealing spread or larger price movements in response to any relatively
large transaction.
100:1 Leverage
100:1 leverage is commonly available from online FX dealers, which substantially
exceeds the common 2:1 margin offered by equity brokers. At 100:1,
traders post $1000 margin for a $100,000 position, or 1%.
While certainly
not for everyone, the substantial leverage available from online currency
trading firms is a powerful, moneymaking tool. Rather than merely loading up on
risk as many people incorrectly assume, leverage is essential in the Forex market.
This is because the average daily percentage move of a major currency is
less than 1%, whereas a stock can easily have a 10% price move on any given day.
The
most effective way to manage the risk associated with margined
trading is to diligently follow a disciplined trading style that consistently
utilizes stop and limit orders. Devise and adhere to a system where your controls
kick in when emotion might otherwise take over.
Lower Transaction Costs
It is much more cost-efficient to trade Forex in terms of both commissions
and transaction fees. Forex brokers usually charge NO commissions or fees
whatsoever, while still offering traders access to all relevant market information
and trading tools. In contrast, commissions for stock trades range from $7.95-$29.95
per trade with online discount brokers up to $100 or more per trade
with full service brokers.
Another important point to consider is the
width of the bid/ask spread. Regardless of deal size, forex dealing spreads
are normally 5 pips or less (a pip is .0005 US cents). In general, the width of
the spread in a forex transaction is less than 1/10 that of a stock transaction,
which could include a .125 (1/8) wide spread.
Profit Potential In Both Rising And Falling Markets
In every open FX position, an investor is long in one currency and short
the other. A short position is one in which the trader sells a currency in
anticipation that it will depreciate. This means that potential exists in a rising
as well as a falling market.
The ability to sell currencies without
any limitations is another distinct advantage over equity trading. In the US
equity markets, it is much more difficult to establish a short position due to
the Zero Uptick rule, which prevents investors from shorting a stock unless the
immediately preceding trade was equal to or lower than the price of the short
sale.
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