What are the dangers of Forex trading people should know?

26/03/2020

The foreign exchange market, shortly known as Forex, is widely known as the biggest trading market in the world. It is also one of the easiest markets to start trading, yet the one that comes with various dangers and risks as well.
 
The biggest and most obvious risk associated with Forex is losing your funds. Everyone’s intentions entering the market is to gain payouts and be successful in trading, yet the average Forex trader is likely to lose money, according to various statistics.
 
Now, while the risk of losing funds is straightforward, there are different variations of risk factors in FX trading that lead people to losses. In this article, we will take a look at five such factors:
 

  • Unpredictable market volatility risk
  • High leverage risk
  • Interest rate risk
  • Liquidity risk
  • Credit risk

 
These individual factors can increase the dangers of trading Forex and losing your hard-earned funds. At the same time, however, these factors are the reason why Forex trading is profitable in the first place. For that reason, it is important to evaluate the risks and rewards before entering the market and make decisions accordingly.

START TRADING IN 10 MINUTES

Apply everything you’ve learnt on a real trading account with up to 1:777 leverage, negative balance protection and outstanding support.
GET STARTED

The risks of online Forex trading

Forex is by far the biggest trading market in the financial world. It accounts for roughly $5 trillion traded volume per day, which far surpasses other markets like stocks, commodities, etc. It is one of the most liquid markets as well, making it possible to buy or sell the currency at any time.
 
Thanks to such scale and liquidity, Forex is considered the easiest market to start trading. People with an internet connection and an internet-connected device can start buying and selling currencies at any time. However, with such ease comes lots of FX trade risks.
 
The most obvious risk that any trader is afraid of is losing money. It is exactly the opposite of their intentions for entering the market, which is to achieve success and get payouts. But unfortunately, various circumstances turn things against Forex traders and lead them towards a losing path.
 Dangers of Forex trading
There are lots of reasons why a trader would potentially lose money while trading Forex, be it leverage, spiking volatility, etc. In the following article, we will discuss five of the most rampant dangers that lead traders to a failure:
 
  • High volatility
  • High leverage
  • Unexpected interest rate changes
  • Low liquidity
  • Untrustworthy counterparty
 
It is interesting to note that these factors are simultaneously beneficial and dangerous to traders. They are the main reason why trading is profitable in the first place, however, if they occur too intensively and traders aren’t careful, they can turn into Forex trading dangers.


The main risks of trading Forex explained


The risk of unpredictable market volatility

One of the key characteristics of any financial market, be it Forex, stocks, commodities, etc. is the continuous change of asset prices. This is shortly known as volatility.
 
On one hand, volatility is the main reason why traders are profitable. If the prices were static and unchanging, there would be no point in buying an asset; the whole point of trading is to buy a security at a lower price and sell it when the price increases. And without volatility, that would not have been possible.
 
On the other hand, however, the change in asset prices can also make traders lose money. They may buy an asset at a certain price and expect to sell it at a higher price to get a payout, however, the market can easily go against them and drop the price, making it unprofitable to sell an asset at that point.
 
The risks of Forex trading are even higher if the market volatility is skyrocketing. At that time, the losses experienced by traders with long positions (buyers) is far greater than it would be in normal conditions. Spiking volatility can be caused by sudden and drastic economic or political news that greatly impact the market. Therefore, it is always a good idea to be careful about position sizes and not open exceedingly large trades.


The risk of high leverage

Leverage is also one of the inherent features of Forex. The majority of Forex brokers offer it to their clients to make it easy for them to control larger position sizes. For instance, if they wanted to open a trade for $100,000 and the leverage rate was at 1:200, a trader would need to make a $500 deposit instead of the full $100,000.
 Risk factors in FX trading
It goes without saying that an increased position also increases prospective payouts. In the same example, the payout of 10 pips would be just 50 cents for a $500 position, whereas the $100,000 leveraged position would generate $100.
 
Unfortunately, however, leverage acts as a double-edged sword because it can also increase the size of prospective losses. A 5-pip loss, for example, would cost a trader just 25 cents if they opened a $500 trade. However, if they had used the leverage of 1:200, they would lose $50 from their position.
 
In short, using the leverage in your trades can be both beneficial and risky and it is up to you to choose the exact leverage ratio that you need.


The risk of unexpected changes in interest rates

The interest rate is yet another key characteristic of the currency market. It shows the percentage of returns people/institutions get for lending their money to others. It also has a big influence on currency exchange rates and presents one of the many risks of Forex investing.
 
If the central bank of a certain country decides to increase the interest rate, it will automatically attract new demand for that currency: those people who want to make deposits or investments in that currency because it gives them larger payouts. Because of that, the currency will strengthen and its price will increase against other currencies.
 
Conversely, if the central bank decides to decrease the interest rate, the demand for it will decrease as well. That’s because the deposits and investments in that currency will generate lower payouts than before. For that reason, the currency and its price against other currencies will weaken.
 
The biggest risk associated with interest rates is their unexpected change. Sometimes, central banks take drastic measures that include unexpected increases/decreases in interest rates. This, in turn, has an effect on the exchange rate of a certain currency, and ultimately, it goes against the traders’ interests.


The risk of low liquidity

As we pointed out in the article above, Forex is the most liquid market because there are always people who are ready to buy and sell currencies. This also means that individuals have little impact on the overall price of an asset because the scope of the market is so huge.
 
Now, there are periods when even the most liquid Forex market can have low liquidity levels, which is yet another one of the FX trade risks. Low liquidity levels usually occur during bank holidays, weekends, or financial crises, increasing the additional operational costs.
 
Usually, when the market is less liquid, Forex brokers tend to increase the size of spreads, which acts as a commission for their services. And as the reader may already know, large spreads reduce payouts received from trades, which is something that traders usually avoid.

The risk of the counterparty
When entering the Forex market, or any market for that matter, one of the first things traders do is find a service provider (a broker). The Forex broker provides them with various tools and indicators that are necessary to conduct a trade. Besides, they connect traders to liquidity providers - the ones that give traders assets to trade.
 Main risks of trading Forex
Unfortunately, one of the risks of trading Forex is being treated poorly by the other party - be it a broker or a liquidity provider. This means not getting paid when you need/want to take the money from your account.
 
The counterparty may be unable to pay you for various reasons. One of those reasons is that the liquidity provider simply defaulted or went bankrupt and has no financial means to pay you. But there are other cases when the counterparty isn’t obligated to pay you by any regulatory authority, therefore, it simply refuses to do that.
 
Either way, it is vital to find a regulated broker that abides by high financial standards and has proper reserves to fulfill your requirements should the liquidity provider be unable to pay out your earnings.
Quick navigation

START TRADING IN 10 MINUTES

Apply everything you’ve learnt on a real trading account with up to 1:777 leverage, negative balance protection and outstanding support.
GET STARTED

Risks of FX trading - Key takeaways

Forex is one of the largest and most liquid financial markets in the world. Its volume reaches trillions of dollars per day and is considered the easiest place to start trading. However, it comes with many risks and dangers.
 
The most obvious risk of Forex trading is losing funds. Yet there are different Forex trade risks that lead to losses. In the following article, we discussed five of the most wide-spread risk factors in this industry:
 
  • The risk of drastic and unpredictable volatility
  • The risk of high leverage and increased losses
  • The risk of fluctuating interest rates
  • The risk of low liquidity and high spreads
  • The risk of not getting paid by the counterparty
 
An interesting thing about these factors is that they’re also the reason why Forex trading generates payouts in the first place. However, if they’re too intensive or occur unexpectedly, they can cause some serious damage to a trader.
 

FAQ

1.What are the most rampant dangers of Forex trading?

When entering a financial market to trade, be it Forex, stocks, or commodities, the first thing you need to understand is that there’s always a risk of losing your money. But if that risk wasn’t there, the Forex market wouldn’t be profitable at all.
 
The biggest risk is, of course, losing money. It is exactly the opposite of your goals on the market. However, the risk factors that can lead you to losses come in many variations.
 
Unexpected and aggressive volatility can be one of the biggest reasons why a trader would lose their funds. It can instantly drive the market in the opposite direction and make it damaging to the trader’s position.
 
Another risk is associated with using too big leverage ratios. On one hand, leverage can increase the initial position size and prospective payouts. On the other hand, however, it does the same thing with losses.
 
There are other risk factors like the unexpected interest rate changes, low liquidity, and counterparty risks. Being careful and choosing the trading partners attentively can somewhat lower the risk of losing money on Forex.


2.How can I avoid Forex trading risks?

As already pointed out in the article, all the risks and dangers of Forex trading ultimately lead to financial losses - the most unwanted outcome for any Forex trader. But there are ways to reduce those risks and increase the chances of a payout.
 
One of the most useful ways is to use the amount of leverage that is absolutely necessary for your trades. Don’t think that just because the broker allows you to have a 1:1000 multiplication rate to your positions, you need to use it. Remember that high leverage increases both payouts and losses.
 
Another important way of reducing risks of trading is to find a regulated counterparty that abides by strict financial rules. This way, you will have better guarantees that you’ll get paid when you demand it from your partner in the trade.
 
You can also find those brokers that have fixed spreads. This can come in handy during low liquidity periods when Forex brokers tend to increase the size of their spreads to cover service costs. With fixed spreads, you will know that they won’t increase in those times.

Extra Mile that Ends at your Doorstep

At Axiory Global Ltd. we try to bring trading back to the client. A professional trading environment with fast executions and highly secured internal procedures, these are foundations on which we build and which we take seriously. But for us, it’s not enough. 
 


         
                       Your Capital is at Risk
Cookie Policy: The Axiory website uses cookies and by continuing using the website you consent to this. Risk Warning: Trading leveraged products such as Forex and CFDs may not be suitable for all investors as they carry a high degree of risk to your capital. Please read the full Privacy Policy.