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Thursday, November 29, 2007

Forex Trading 102 - FOREX BROKERS! Who do I give my money too? Whose advice and training do I trust? -- PART 1

Forex Trading 102 - FOREX BROKERS! Who do I give my money to? Whose advice and training do I trust? -- PART 1

Let’s talk about brokers in the Forex industry as a whole as part of your premiere free forex training.


I’m about to make a lot of brokers not happy with me, but it is my duty to tell you that the forex industry is not all that credible. There a lot of shady things going on in the forex market and its not something that we can really prove is going on. There are some tests that we can do to see if we can get the sense that our BROKER is cheating us.

The Forex market is a market that is traded electronically around the world so you have the virtual trading floors all over the place throughout the world. There are different laws and regulations all throughout the world so as you could probably imagine the forex market is the wild west of the 21st century.

Let that sink in. It is your responsibility to know that you are in a very risky, wild, frontier. That no one will protect you here and that you are on your own. At the same time the rewards of taking on this challenge are unbelievable! You WILL win big!!! You will loose! Its how we win and how we loose that determines whether we win our financial war. Another note to take is that when you win big, don’t get excited about it, it’s part of the job, and when you loose, don’t get excited about, it’s part of the job.

Now back to brokers! There are 2 types of brokers, ok ones, and bad ones. That’s about it. Now the brokers have their own challenges to deal with and we don’t make it any easier on them, but that is all the slack I’m going to give them.

There are 2 areas that we can look at with brokers that give us an idea as to which side of the line they lay on. These are 2 policies the brokers operate by and they are:

Swap Rates Test – The easiest to determine & most brokers will not pass this test

ECN Test – is to determine whether the broker is an ECN broker or an order house/market maker/bucket shop – more difficult to determine – usually take calling the broker and talking to someone. (Update…this will be covered in the next post, the to be continued post that I will post very shortly, like tomorrow…this is in an effort to keep the post to a length limit for your convenience).

To keep this post shorter I will only cover the simpler swap rates and a generic question to call the broker with to determine the broker’s integrity.

Let’s talk about swap rates. What is a swap? A swap is a funny thing that the brokers are required to do. Basically the brokers are not allowed to hold a trade over night, so they must swap your trade out with a fresh new trade. You never see this happen and everything still looks the same but when this actually takes place someone has to pay for the swap. What that payment is, is interest. Depending on the position or direction of the market the swap/interest rate is either positive or negative. So let’s take the EUR/JPY and buy it (buying the EUR) and hold it anticipating that the trade is going up. When I hold it over night, the broker swaps it out, and because of how the finical markets work there is a +swap/interest payment that gets paid to me. So I make money on top of money. This Japanese Yen position is actually called the CARRY TRADE! Interesting right? Take a look at any JPY chart and look at that very long term trend, and then remember the words of Alan Greenspan talking about the unwinding of the carry trade. This is a whole other topic all together.

So we can either have to pay out swap rates or receive swap rates for holding trades over night. Well the brokers determine what the swap rates are. They have to pay or receive a swap rate themselves when they make the transaction and they basically give you a cut of that. You will notice that a swap is greater in one direction or the other. We use these numbers to determine the integrity of the broker. If the swap rate is a 3:1 ratio this is not good. A 2:1 ratio is the least that we will take from a broker. The ideal case would be a 1:1 ratio. Now what do I mean about all of this?

Simple Definition:

Swap long = the interest paid or deducted from you while holding the trade over night for a long position - meaning we buy the Euro in anticipation of the chart increasing in value.

Swap short = the interest paid or deducted from you while holding the trade over night for a Song position - meaning we buy the Dollar in anticipation of the chart decreasing in value.

Let’s take the swap rate for the EUR/USD of an unnamed broker:


Swap Long = -.29 (when I buy the Euro vs. Dollar to go up I will have to pay an interest charge every day I hold this)

Swap Short = .21 (when I sell the Euro vs. Dollar to go down I recieve an interest charge every day I hold this)

When we compare these rates we just divide the 2. For this example this shows that the broker is taking their cut, but not taking complete advantage of us. This is actually a really good rate.

.29 / .21 = 1.38 or 1.38:1

Lets look at some more currency pairs…

AUD/CAD: Swap Long = .2 / Swap Short = -.36 -- .36/.2= 1.8 or 1.8:1 = acceptable

GBP/JPY: Swap Long = 3.02 / Swap Short = -3.87 -- 3.87/3.02= 1.3 or 1.3:1 = acceptable

When you see a currency swap rate this is: 1.75/.6 = 2.9:1 which is unacceptable this is a broker who takes advantage of you.

So it looks like this is a good broker….so far (& I hope so since this is my broker). Go ahead and do this for every currency pair, it is a good exercise and can be easily done in excel, this will also serve as your record when brokers want to change swap rates on you.

Brokers change their swap rates, so be careful of this. I called this broker who is not in the U.S. and talked with them and told them that this is how we as customers evaluate them. I complained to them because they increased their swap rates to a ratio of higher than 2:1. Within about 3 months they switched the ratios back, and since that time they have even gotten better.

So this broker passes TEST 1 the swap test.

I will end this post here and will post a separate post for the continuation…

There is a lot of training to be had so that you can survive the Wild West, again if you have to get started right away please get some more training. The trading system in the links section of the blog (upper right) is a good place to start.

To be continued……

Live abundantly and share that abundance with others!

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