If you’re looking for alternatives to investing directly in the stock market or bond market, you may have considered alternatives like options trading or foreign exchange trading. Both of these are very similar – the both utilize leverage for their products, and they both have big risk and reward profiles. However, foreign exchange has the advantage in that it is a real asset, currency, versus a derivative product, like options. And it has just as much money making potential.
What is Foreign Exchange?
Foreign exchange, also know as Forex, is the trading of currencies, usually internationally. On the most basic level, it is what you do when you travel overseas – like travelling to Europe. Before you go, or when you arrive, you exchange your US Dollars for Euros. When you do, there is an exchange rate. And if you ever watch the evening news, they usually highlight how the exchange rate fluctuates daily.
In reality, the foreign exchange market is the largest asset market in the world, with trillions of dollars exchanged everyday. With that being said, the exchange rates between currencies fluctuate each day, giving traders an opportunity to make money. Traders do this by trading money through corporate foreign exchange banks, or other brokers.
How Can You Make Money?
There are several ways that you can make money by trading in the foreign exchange market. The first way would be the most familiar to traders in the stock market. You can make money by buying currency at one price, and selling it at a higher price. For example, if you buy the Euro at $1.25 per $1 US Dollar, and it rises to $1.50 per US Dollar, you would make $0.25. And since you trade with leverage in the foreign exchange market, your return is usually amplified by anywhere from 100 to 500 times, so $25 to $125 per contract. It’s the power of leverage that can really make you money.
Second, you can make money through what is known as the carry trade. This is when you sell a currency at a low interest rate, and use the funds to purchase a currency at a higher interest rate (the interest rates set by the central banks of the countries). You basically do this to capture the difference between the two rates, which earns you a profit. And combine that with leverage, and you can have great returns.