1) Physical cash
This is an easy option for just about anyone. Holding cash completely eliminates the risk of keeping your savings in a shaky bank.
You can secure your cash by storing it in a safe at your home, or at a non-bank private vault facility.
It means your savings won’t be gambled away by your banker on the latest investment fad.
You can’t have your account frozen by any one of dozens of government agencies.
And if something goes wrong with the banking system, your savings will survive untouched.
But cash is no panacea. While it dramatically reduces the risk to your savings posed by potential challenges in the banking system, you may also want to consider…
2) Precious metals
While cash is a great hedge against problems in the banking system, precious metals are a fantastic hedge against problems in the broader monetary system.
If the market ever wises up and realizes that all these pieces of paper passed off as money are simply worthless claims on bankrupt governments, OR there comes a day when central banks print the straw that breaks the camel’s back, you’ll want to make sure you own gold and silver.
Gold is a real asset with a 5,000 year history of value and marketability, three times as old as the oldest paper currency still in use (the British pound).
Now, like any form of savings, gold by itself doesn’t produce a rate of return.
Cash in a bank account earns about 0%. Cash in a safety deposit box earns 0%. Gold in a safety deposit box earns 0%.
So in order to earn some return on your savings, it’s necessary to consider owning…
3) Deep-value investments
Own profitable businesses managed by talented people of integrity, and buy them when the share price is below the company’s intrinsic value.
Share prices go up and down day to day. But over the course of several years, wonderful, well-managed businesses perform extremely well in any environment.
In the event of inflation, they go up in value. In deflation, they produce valuable cash flow. Even in a crisis, they’re the first to recover.
Great businesses often pay steady dividends as well, so you can expect to earn healthy cash flow while honest, talented executives look after your savings.
Rule #1: Contrarianism takes courage.
Everyone knows the essential investment formula: “Buy low, sell high,” but it is so much easier said than done, it might as well be a secret formula. The way to really make it work is to invest in an asset or commodity that people want and need but that for reasons of market cyclicality or other temporary factors, no one else is buying. When the vast majority thinks something necessary is a bad investment, you want to be a buyer—that’s what it means to be a contrarian. Obviously, if this were easy, everyone would do it, and there would be no such thing as a contrarian opportunity. But it is very hard for most people to think independently enough to risk hard-won cash in ways others think is mistaken or too dangerous. Hence, fortune favors the bold.
Rule #2: Success takes discipline.
It’s not just a matter of courage, of course; you can bravely follow a path right off a cliff if you’re not careful. So you have to have a game plan for risk mitigation. You have to expect market volatility and turn it to your advantage. And you’ll need an exit strategy. The ways a successful speculator needs discipline are endless, but the most critical of all is to employ smart buying and selling tactics, so you don’t get goaded into paying too much or spooked into selling for too little.
Rule #3: Analysis over emotion.
This may seem like an obvious corollary to the above, but it’s a point well worth stressing on its own. To be a successful speculator does not require being an emotionless robot, but it does require abiding by reason at times when either fear or euphoria tempt us to veer from our game plans. When a substantial investment in a speculative pick tanks—for no company-specific reason—the sense of gut-wrenching fear is very real. Panic often causes investors to sell at the very time they should be backing up the truck for more. Similarly, when a stock is on a tear and friends are congratulating you on what a genius you are, the temptation to remain fully exposed—or even take on more risk in a play that is no longer undervalued—can be irresistible. But to ignore the numbers because of how you feel is extremely risky and leads to realizing unnecessary losses and letting terrific gains slip through your fingers.
Rule #4: The trend is your friend.
No one can predict the future, but anyone who applies him- or herself diligently enough can identify trends in the world that will have predictable consequences and outcomes. If you identify a trend that is real—or that at least has an overwhelming amount of evidence in its favor—it can serve as both compass and chart, keeping you on course regardless of market chaos, irrational investors.
Knowing that you are betting on a trend that makes great sense and is backed by hard data also helps maintain your courage. Remember; prices may fluctuate, but price and value are not the same thing. If you are right about the trend, it will be your friend. Also, remember that it’s easier to be right about the direction of a trend than its timing.
Rule #5: Only speculate with money you can afford to lose.
This is a logical corollary to the above. If you bet the farm or gamble away your children’s college tuition on risky speculations—and only relatively risky investments have the potential to generate the extraordinary returns that justify speculating in the first place—it will be almost impossible to maintain your cool and discipline when you need it.
To provide a start illustration, $10,000 invested at 10% for 100 years turns into $137.8 million. The same $10,000 invested at twice the rate of return, 20%, does not merely double the outcome, it turns it into $828.2 billion. It seems counter-intuitive that the difference between a 10% return and a 20% return is 6,010x as much money, but it’s the nature of geometric growth.
So What’s a Good Growth Rate?
When it comes to answering what a “good” rate of return on your investments is, I find myself frequently reiterating the truism that past performance is no guarantee of future results, and that even the best-structured portfolio or investment plan can result in permanent capital losses. I think about risk a lot. It’s in my nature. In fact, I believe people don’t think about risk enough. Things like the total decimation of the Austrian stock market upon the annexation of Austria by Nazi Germany have happened, can happen, and will happen again at some point in the future.
There are no guarantees of any kind in life.
With that said, I think the only reasonable, academic position a person can take if they assume that civilization will remain relatively stable is to answer that determining a “good” rate of return on your investments is probably easiest if we examine the nearly 200 years of data from Ibbotson & Associates, a data research firm that tracks financial market history.
It’s not perfect for the reasons we just discussed, as well as several others, but it’s the best we have.
To accomplish this, the first thing we need to do is strip out inflation. The reality is, investors are interested in increasing their purchasing power. That is, they don’t care about “dollars” or “yen” per se, they care about how many cheeseburgers, cars, pianos, computers, or pairs of shoes they can purchase.
When we do that and look through the data, we see rate of return vary by asset types:
- Gold: Typically gold hasn’t appreciated in real terms over long periods of time. Instead, it is merely a store of value that maintains its purchasing power. Decade-by-decade, though, gold can be highly volatile, going from huge highs to depressing lows in a matter of years, making it far from a safe place to store money you may need in the next few years. Use Gold as an insurance over time.
- Cash: Fiat currencies are designed to depreciate in value over time. In fact, $100 in 1800 is worth only $8 today, representing a loss of 92% of value. Burying cash in coffee cans in your yard is a terrible long-term investing plan. If it manages to survive the elements, it will still be worthless given enough time.
- Bonds: Historically, good, quality bonds tend to return 2% to 4% after inflation in normal circumstances. The riskier the bond, the higher the return investors demand.
- Business Ownership, Including Stocks: Looking at what people expect from their business ownership, it is amazing how consistent human nature can be. The highest quality, safest, most stable dividend-paying stocks have tended to return 7% in real, inflation-adjusted returns to owners for centuries. That seems to be the figure that makes people willing to part with their money for the hope of more money tomorrow. Thus, if you live in a world of 3% inflation, you would expect a 10% rate of return (7% real return + 3% inflation = 10% nominal return). The riskier the business, the higher the return demanded. This explains why someone might demand a shot at double- or triple-digit returns on a start-up due to the fact the risk of failure and even total wipe-out are much higher. To learn more about this topic, read Components of an Investor’s Required Rate of Return.
- Real Estate: Without using any debt, real estate return demands from investors mirror those of business ownership and stocks. The real rate of return for good, non-leveraged properties has been roughly 7% after inflation. Since we have gone through decades of 3% inflation, over the past 20 years, that figure seems to have stabilized at 10%. Riskier projects require higher rates of return. Plus, real estate investors are known for using mortgages, which are a form of leverage, to increase the return on their investment. The present low-interest rate environment has resulted in some significant deviations in recent years, with investors accepting cap rates that are substantially below what many long-term investors might consider reasonable.
Keep Your Expectations Reasonable
There are some takeaway lessons from this. If you’re a new investor and you expect to earn, say, 15% or 20% compounded on your blue chip stock investments over decades, you are delusional. It’s not going to happen.
That might sound harsh, but it’s important that you understand: Anyone who promises returns like that is taking advantage of your greed and lack of experience. Basing your financial foundation on bad assumptions means you will either do something stupid by overreaching in risky assets, or arrive at your retirement with far less money than you anticipated. Neither is a good outcome, so keep your return assumptions conservative and you should have a much less stressful investing experience.
What makes talking about a “good” rate of return even more confusing for inexperienced investors is that these historical rates of return — which, again, are not guaranteed to repeat themselves! — were not smooth, upward trajectories. If you were an equity investor over this period, you suffered sometimes jaw-dropping, heart-pounding losses in quoted market valuation, many of which lasted for years. It’s the nature of dynamic free market capitalism. But over the long-term, these are the rates of return that investors have historically seen.
Between 1999, when gold bottomed at $250, and the 2011 peak at $1,920 there was only one major correction lasting 8 months in 2008. The ensuing correction from the 2011 top at $1,920 of almost $900 seemed to take an eternity until it finally finished in December 2015. During those four years it was always clear to me that the uptrend in the precious metals was still intact although I must admit that I did not expect a correction of that duration.
But after a long life in markets, patience becomes a virtue that is absolutely essential. If your investment decisions are based on sound principles at the outset, there is no reason to change your opinion because the market takes longer to accomplish what it must do.
And as we know, the financial system almost went under in 2007-9. With $25 trillion of printed money, credit and guarantees the system was given a temporary stay of execution. But these $25 trillion was just the initial package. Since 2006 global debt has increased by $90 trillion plus unfunded liabilities and derivatives of several hundred trillion dollars. This explosion of debt has confirmed the risks that we saw already back in 2002.
Now entering 2017, the financial system seems that cannot survive intact. Global debt has gone from $20 trillion to $230 trillion, a more than 10 times increase in the last 25 years and none of this debt can be repaid with real money. Governments and central banks have totally run out of ammunition. In their desperate attempts to save the financial system, they have manipulated every single market and financial instrument. They print money, they set false interest rates (now negative), they buy their own debt, they support stock markets and they also sell gold in the paper market.
All of this action or deceitful manipulation is just creating bigger bubbles that will eventually lead to a total implosion of the financial system and all the bubble assets such as stocks, bonds and property.
In addition, bank stocks in Europe are now showing all the signs of going to zero. Most major banks are down 70-90% since 2006 and many have fallen 25% in the last few days. The European banking system is on the way to bankruptcy. And many U.S. banks like Bank of America and Citigroup are showing the same signs. The coming months will be extremely volatile and disruptive in world financial markets.
The problem is that no one is prepared for the coming shock. The world believes that the Shangri-La state that central bankers, led by the Fed, have created in the last 100 years will last forever. A privileged few have accumulated unreal wealth. Most normal people in the West believe that they are better off, not realizing that their higher standard of living is based on government debt and deficit spending as well as a massive increase in personal debt.
But before the financial system implodes, there will be the most massive money printing program that the world has ever seen. They will need to print money in a final and futile attempt to save the bankrupt banks. With $1.5 quadrillion in derivatives outstanding, the printing presses (or the computers) will run hot. With Deutsche Bank’s derivatives at $75 trillion and JP Morgan at almost $100 trillion, only those two banks need support at 2.5 times global GDP.
It is of course not just the financial system that will need support. Governments will run out of any significant tax revenue and will need to print money for all their expenditure. Remember that Japan, for example, already today prints 50% of its annual expenditure.
All of this printing will result in global hyperinflation of at least similar proportions to the Weimar republic or Zimbabwe with the dollar, euro, yen and pound all reaching their intrinsic value of zero.
Throughout history, gold (and sometimes silver) has been the only money that has survived. Every paper or fiat currency has always been destroyed by governments through deficit spending and money printing. In the last 100 years all major currencies have declined 97-99% against gold. It is virtually guaranteed that they will go down the final 1-3% to zero. But it must be remembered that this decline means a 100% fall from here.
This final decline of the currencies will be reflected in the gold and silver prices. I am still convinced that we will see gold at $10,000 and silver at $500 and possibly in the next 5 years and that those levels will be reached even with normal inflation. But if we get hyperinflation, we could add quite a few zeros to the price.
So from a wealth protection or insurance point of view, it is absolutely essential to own gold and some silver. And although I said that precious metals are primarily for a privileged few, this is actually not the case. In India, virtually everyone owns gold and many of the Chinese save in gold. Any ordinary person can buy, say, one gram gold or more a month. One gram is $40, which many people could afford to save monthly.
Gold at $1,330 and silver at $19 is a bargain. But the metals will not stay at these low levels for very long. With the correction finished and the next uptrend in place, we could soon see the metals accelerate very fast.
The problem is that there is very little physical gold available in the world and we have reached peak gold from a production point of view. With the massive outstanding paper gold position in the system, we will soon see the paper shorts running for cover. Once demand increases, it can only be satisfied by much higher prices.
Let’s be honest and admit that the modern corporate script involves selling your own wishes and dreams for paychecks. I know that a lot of us have played along with it because of necessity, but this is not a way of life to cling to, it’s a way of life to escape.
You are meant to live your life. Yes, I know it can seem hard, but it’s the only life that’s really worth living. You have to give meaning to your life, and you’ll never get it by following the televised script and hoping for pats on the back from the people who are playing along with you.
This life you have is precious. Human beings are engines of creation; we are able to imagine and to turn our imaginations into reality. And we are capable of supercharging our creative abilities by sharing our lives and loves with other people. We are astonishingly capable creatures.
Don’t waste all your life’s abilities in a corporate cubicle. You’ve already seen how that goes: Work excessive hours, go home tired, watch TV, sleep, and start over. Your kids end up in mini corporate worlds called “schools,” where they are taught to sit, be quiet, obey, and turn off their internal desires and loves. If you play that game you’ll miss most of your life in the process, as well as most of your children’s lives.
Once you get some corporate inertia going, it is all too easy to get sucked into it permanently. Don’t let that happen to you.
A 360 turn
Wake up and see the world as it is. Turn off the talking heads on TV and get to know the real world. Stop spending all your brain cycles ( if you have any left) on celebrities, sports heroes and gossip hounds – get to know your neighbor and the old woman who lives around the corner, strike up a friendship with someone on the other side of the world. Travel. Spend your time with real people; get to know them, and reveal yourself to them. It only seems weird because the people who programmed you didn’t want you to think freely.
Start doing what you love. Don’t wait for someone else, do it yourself. Start helping your friends and neighbors, spend serious time with your children – not at a game or a party, but just you and them, talking. Find out what they love. Let them know you.
Start living, not merely existing. DO the things you feel an urge to do. And don’t fall into the usual trap of “what if I make a mistake?” That’s simply fear-based conditioning. Resist it. Do what you love, and in so doing, you will turn yourself on.
Are you going to go through your whole life and never follow your own wishes, always sacrificing them to the tyranny of other peoples’ opinions? Please don’t do that to yourself – you’ll suffer greatly for it when you’re old.
Screw all the expectations
Stop wasting your time and energy on governments and arguments and politics. Drop out of their mindset and start reclaiming all those wasted hours. Lying politicians are simply not worth your devotion. Drop the endless party fights and stop arguing about them. Politics is ugly, and politics on the brain makes us ugly.
Stop paying attention to the hundreds of ads you see every day – they are scientifically designed to grab your thoughts. Turn away. Stop buying trendy things, and definitely stop buying things for the purpose of impressing other people.
Stop trying to fit in, and stop living according to other people’s expectations. Let them call you weird. Let them talk about you. Stop caring about it. If they were real friends, they wouldn’t treat you like that. So if they are willing to call you names, you’re better off dropping them now.
Don’t fight the system – that just keeps all of your energy and attention focused on them. Forsake the system and start creating a better life for yourself, the people you love and the people you respect. Stop giving all your life’s energy to a barbaric system of force and manipulation.
Let the system go; all of it. Move on and let it rot where it sits.
Let go of the plan addiction. Life is organic, not mechanical.
First of all, you need to identify what you want to create with the precious life you’ve been given. Not what you want to stop, but what you want to make.
If you’ve never been told to do this before it may seem hard, but you can do it if you try.
Don’t sit and wait. Stop talking and start doing.
The simple truth is UK financial system is screwed.
If interest rates were at their historically ‘normal’ rate of 5% — instead of the all-time low of 0.5% they’re at right now — there’s absolutely no way Britain could ever repay its debts.
In fact, at normal rates of interest UK is already bust. Not just ‘in over our heads’ but six feet under.
It’s simple maths. If interest rates moved back towards the normal 5% level, our cost of borrowing would triple.
Just to put that into context, if our current debt repayments tripled, the government would have to take drastic action — like abolishing the state pension. Or privatizing the NHS. Or pushing tax rates back up to 90%, as they were in the 1960s.
In short, Britain would change radically.
And that’s just if interest rates move back to ‘normal’ levels.
Now you are probably thinking ‘there’s no way the Bank of England or the government would let this happen’. You think they’d act to prevent it.
You are right. They are about to act. They are considering abolishing your cash to keep a tight control on your money.
UK citizens may not think of themselves as an extreme economy like Argentina. Or Cyprus. Or Greece. But the reality of it is: IT’S the same.
In fact, UK has borrowed far more than any of those nations. The perception is that UK economy is too important. That Britain is too big to fail.
Don’t believe it.
What you are about to see is the end-game of Britain’s colossal accumulation of debt. And it is a ticking time bomb.
In this scenario, debt is the gunpowder… it has made our entire system prone to combustion.
Interest rates are the spark that will set the whole thing off.
Those in charge of the financial system know it.
They will do everything they can to delay the explosion of Britain’s debt bomb.
And that’s why they could be on the verge of implementing draconian measures:
Total control of your money.
The forex market has many players, large and small
As discussed before, like most markets, the forex essentially works because many participants are buying and selling a fairly uniform product. Currency contracts at the retail level are most often denominated in 100,000 or 10,000 units of the base currency in the pair. There are many dealers who will break a lot into units smaller than that, but a full-size 100K or mini-size 10K lot is the most common.
Forex dealers can be classified as over-the-counter market makers. That means that when you are buying a currency pair, they are the seller. Likewise, when you are selling a currency pair, they are the buyer. The quotes you see on a trading platform are the prices the dealer is willing to buy or sell the currency contract for.
That seems pretty straight forward, but you may wonder how the prices offered by all the dealers are virtually identical if they (the dealers) are independent. That question causes a lot of confusion in the market, even for experienced traders. Oddly enough, the source of that confusion is, in some cases, the dealers themselves.
That’s why it’s vital to educate yourself on the dealing process, and to carefully investigate a dealer before opening an account.
To get a better idea how all this works behind the scenes, let’s take a look at forex market participants and how they relate to each other.
Banks—The “Interbank Market” is one of the most misused terms in the retail forex market. The interbank market is what it sounds like; a network of banks that trade currencies with each other. There are a lot of banks in the network, and many of the largest forex dealers are considered part of the interbank market. Each of these banks trades with the other banks in the intermarket through the use of dealing, or trading, desks. Each bank’s dealing desk is in contact with the other banks’ desks as though they were on an exchange floor. So many transactions take place throughout the day that the interbank market participants have very uniform pricing. In other words, if you froze time, the prices available for a forex pair would be virtually identical from bank to bank.
Forex Dealers—Institutions who service the retail market and have access, through brokerage agreements, to one or more of the banks involved. The dealer receives current pricing on each forex pair from the banks they have relationships with. The price one dealer sees is the same as the price the other dealers see, because they all have access to the interbank market. In fact, many dealers use the same major banks—like Goldman Sachs or Deutsche Bank—to access the interbank market. A forex dealer will then send these prices through to you, the retail trader, in your trading station.
Dealers make money through the “spread.” The spread is the difference between the price a dealer will buy a currency contract from you (the bid price), and the price it can sell that contract to you, or another trader (the ask price). Spreads are an important factor for forex traders to understand, both in picking a dealer, and managing trades.
The forex dealer may modify currency prices in a couple of ways. First, some dealers offer fixed spreads. The industry term for this practice is “consistent spreads.” Fixed, or consistent, spreads are wider than the spread these dealers pay the banks they are using as a broker and represents a major portion of their revenue. Alternatively, a dealer may offer a variable spread to you the retail customer, which is usually narrower than a consistent spread but may widen considerably when market volatility increases.
When you make a trade with your dealer, they are in turn offsetting that risk through their prime brokerage accounts. For example, if you enter a trade long the EUR/USD, your dealer does not want to be remain short that position as the seller of that lot. Their business is providing liquidity not taking positions. They will offset their customer’s positions by trading an opposite position with another participant in the interbank. The actual process can be quite complicated with so many orders coming and going but that is how they manage their risk.
Retail customers—This is you. The retail customer has access to the forex through his/her dealer. Although they are one level removed from the primary interbank market, it is not usually a disadvantage for the retail trader.
Supply and demand drives the forex market
The Forex market, just like every other market in the world, is driven by supply and demand. In fact, understanding the concept of supply and demand is so important in the Forex market that we are going to take a step back into Economics 101 for a moment to make sure we’re all on the same page.
Having a good grasp on supply and demand will make all of the difference in your Forex investing career because it will give you the ability to sift through the mountain of news that is produced every day and find those messages that are most important.
Supply is the measure of how much of a particular commodity is available at any one time. As the supply of a currency increases, the currency becomes less valuable. Conversely, as the supply of a currency decreases, the currency becomes more valuable.
Think about rocks and diamonds. Rocks aren’t very valuable because they are everywhere. There is a large supply of rocks in the world. You can literally walk down the street and have your choice of hundreds and thousands of different rocks. Diamonds, on the other hand, are expensive because there aren’t that many of them in circulation. There is a small supply of diamonds in the world, and you have to pay a premium if you want one. It’s a crude analogy, but the point is made.
On the other side of the economic equation, we find demand. Demand is the measure of how much of a particular commodity people want at any one time. Demand for a currency has the opposite effect on the value of a currency than does supply. As the demand for a currency increases, the currency becomes more valuable. Conversely, as the demand for a currency decreases, the currency becomes less valuable.
Japan as an illustration
Take oil prices for example. When demand for oil goes up or the supply of oil drops off, oil prices go up. As oil prices go up, gasoline and natural gas prices go up. As gasoline and natural gas prices go up, you end up spending more to drive around town and to heat your home. And as you spend more and more on oil-based products, your budget gets leaner and leaner. Well, these same factors that affect your budget affect the budgets of the world’s largest corporations and governments.
One country that suffers from rising oil prices just like you do is Japan. Japan imports nearly 100 percent of its oil. It doesn’t have much of a choice. Japan isn’t known for its booming oil reserves. So any oil Japan wants to use to produce electronics, cars, and other goods, it must buy it at whatever the going rate is. But that’s just the beginning. Japan’s economy relies on its ability to export the goods it creates to other countries, like the United States. As you’ve noticed driving around town, it costs a lot of money to transport your groceries, your kids, and yourself from one place to another. It costs even more when you have to ship your goods across the Pacific Ocean. Every car, DVD player, and computer Japan produces is becoming more and more expensive to ship to consumers. So when you look at it, Japan is getting hit on both sides. It has to import all of its oil at inflated prices, and then it has to turn around and pay inflated prices to ship all of its goods.
So what impact does all of this have on Japanese goods? It makes them more expensive. If Japanese companies have to pay more to produce their products and then have to pay more to distribute their products, they are going to have to charge more for their products to cover their expenses and make a profit. As products become more and more expensive, consumers are able to buy less and less. And as consumers buy less, companies make less, which leads to all sorts of economically negative outcomes. Now, let’s take a step back now and look at what all of this has to do with the exchange rate of the Japanese yen.
Looking through the lens of supply and demand, you can see how an increase in the price of oil would affect the value of the Japanese yen. Oil is priced and sold in U.S. dollars. As oil becomes more expensive, purchasers in Japan have to convert more and more of their Japanese yen into U.S. dollars so they could pay for their oil. This would increase the supply of Japanese yen in the Forex market and subsequently lower the value of the Japanese yen. To compound the problem, as Japanese goods become more expensive and fewer and fewer people can afford to buy them, demand for Japanese yen falls. The fewer products you buy, the fewer Japanese yen you need. And when you don’t need something, you stop demanding it. Rising supply plus falling demand equal a decrease in the value of the Japanese yen.
The price of oil and its effect on the Japanese yen is just one example of how supply and demand impacts the Forex market. We will be looking at many other fundamental factors that influence the Forex market in the coming lessons. But the important thing now is that you feel comfortable with the concept of supply and demand.
Always be thinking Supply and Demand in your analysis
Every time you analyze the Forex market, all you have to do is ask yourself how supply and demand are going to be affected by what is going on. This holds true for both fundamental and technical analysis—the two major disciplines in the Forex market and every other market, for that matter.
Fundamental analysis is the study of what is happening in the world around us. Everything we have discussed so far in this book and will continue to discuss, from oil prices to stock market performance, relates to fundamental analysis.
Technical analysis is the study of what is happening on the chart of a particular currency pair. We will be discussing a few basic tenets of this investment art in a later lesson.
But both forms of analysis are built upon a foundation of supply and demand, so get ready to ask yourself supply-and-demand-related questions a lot. We’ll now look at more illustrations and examples in the video.
The Forex market is the largest financial market in the world. More than $3 trillion in foreign currencies trade back and forth every day. Forex stands for the FOReign EXchange—the financial exchange on which governments, banks, international corporations, hedge funds and individual investors exchange foreign currencies.
How does the forex work?
When you fly to another country, one of the first things you do when you get off the plane is look for a place you can exchange your U.S. dollars for whatever currency is used in the country you are visiting—such as British pounds, Japanese yen or euros.
Why do you do this? Because you know the cab driver, the hotel clerk and the souvenir salesperson are all going to want you to pay them in their national currency, not U.S. dollars.
When you slide your U.S. dollars over to the teller and she slides back a stack of multi-colored bills (let’s face it, most currencies have more color than the greenback) you have just participated in the Forex market. You exchanged one currency for another.
Now, if you stop and think about all of the people who travel, all of the businesses that operate in multiple countries and all of the governments that are exchanging money, you can start to get an idea of how big the Forex market really is.
For those of you who travel abroad frequently, you have probably also noticed that the exchange rates at the currency counter at the airport never seem to be the same. They are constantly changing. It is those changes in exchange rates that enable you to make money in the Forex market.
Basic Lesson: Know your Forex terms
Before we delve any deeper into the exciting possibilities that exist in the Forex market, we need to get you up to speed on the lingo in the Forex market. Now, don’t worry. As far as vocabulary lessons go, this one is quite a lot of fun. Honestly! It’s a very short lesson:
Pip: While some of you may recognize “Pip” as a character in Charles Dickens’ Great Expectations, we hope you will become more intimately acquainted with the pips in the Forex market—because you will be using them to determine your profits and losses. A pip (percentage in point) or point, is the smallest unit of measurement in the Forex market. Most currency pair quotes are carried out four decimal places—i.e. 1.4500. The last decimal place is called a pip. So if the exchange rate of a currency pair moved from 1.4500 to 1.4510, we would say that the price moved up 10 pips. You make money when the pips move your way in a trade.
There is an exception: Any exchange rate that contains the Japanese yen or the Thai baht as one of the currencies will only be carried out two decimal places. If you want to know why that is, you will have to take it up with the International Organization for Standardization (ISO). Honestly, there is such an organization. It is located in Geneva, Switzerland, and you would be amazed at the fields it impacts—from health care and electrical engineering to ship building and metallurgy. Anyway, they set the rules.
Currency Pair: We wouldn’t have a Forex market if we weren’t able to compare the value of one currency against the value of another currency. It is this comparison that drives prices. Forex contracts are always quoted in pairs. The euro vs. the U.S. dollar (EUR/USD) is the most heavily traded currency pair. The U.S. dollar vs. the Japanese yen (USD/JPY) is another popular pair.
The following is a list of the most common currency pairs, their trading symbols and their nicknames:
Understanding Pairs and Price Quotes
One distinction you do need to make when looking at a currency pair is which currency is the base currency and which currency is the quote currency. The base currency is the first currency listed in the pairing. For example, the base currency in the EUR/USD pair is the euro because it is listed first.
The base currency is important because it is the strength or weakness of this currency that is illustrated on the chart. For example, as the chart of the EUR/USD moves higher, it means the value of the euro is getting stonger as compared to the U.S. dollar.
As the chart of the EUR/USD moves lower, it means the value of the euro in relation to the U.S. dollar is getting weaker.
The same principle applies to the USD/JPY pair or any other currency pair. The U.S. dollar is the base currency in the USD/JPY pair. So as the chart of the USD/JPY moves higher, it means the value of the U.S. dollar in relation to the Japanese yen is getting stronger. And as the chart of the USD/JPY moves lower, it means the value of the U.S. dollar in relation to the Japanese yen is getting weaker.
The quote currency is the second currency listed in the pairing. For example, the quote currency in the GBP/USD pair is the U.S. dollar because it is listed second. The quote currency is important because it is the currency in which the exchange rate is quoted.
To illustrate, when you say the exchange rate between the British Pound and the U.S. dollar is 1.7533, you are saying it costs $1.7533 to purchase ₤1. The same principle applies to the USD/CHF pair or any other currency pair. The Swiss franc is the quote currency in the USD/CHF pair. So when you say the exchange rate between the U.S. dollar and the Swiss franc is 1.2468, you are saying it costs 1.2468 Swiss francs to purchase $1.
Currencies are sold in lots
In the stock market, when you want to buy something, you buy a share of stock, or a share of that company. In the Forex market, when you want to buy something, you buy a contract, or a lot. (We use the term contract because the Forex market utilizes currency futures contracts). There is no way to buy a share of the U.S. dollar like you would buy a share of Google in the stock market. When you trade in the Forex market, you are trading lots or contracts.
Contracts are divided into three categories: full-size contracts, mini contracts and flexible contracts.
Full-Size Contracts control 100,000 units of whatever the base currency in the currency pair is. So for instance, if you were to buy one full-size contract on the EUR/USD, you would control €100,000 because the euro is the base currency in the pair.
Mini-Contracts control 10,000 units of whatever the base currency in the currency pair is. As you can see, a mini contract is one-tenth the size of a full-size contract.
Flexible Contracts allow you to choose the exact amount of a currency you would like to control. If you want to control 84,392 units or 2,755 units of the currency you are interested in, you can with a flexible contract.
Being able to choose among full-size, mini and flexible contracts allows you to tailor your investing to best meet your investment style and strategy.
Make sure to take the time to feel comfortable with the lingo of the Forex market. If you have a solid foundation of knowledge, you’ll be much better off in your investing. So now that you’ve got the basics, let’s watch the video and take a look at what makes the Forex market tick, how it came to be, and how you can use it to protect and multiply your money.
Austrian Futures and Options Exchange
A market distinguished by declining prices.
Governs how much you make or lose on a spread bet for every point of movement in the price of the market.
A spread betting price is made up of a level at which you can ‘sell’ and a level at which you can ‘buy’. The level at which you can ‘sell’ is always the lower of the two prices and is called the bid.
A special form of spread bet with only two outcomes at expiry – if a specific result is achieved (for example, the FTSE® to finish up at the end of the trading day) the bet is closed at a level of 100. If the result is not achieved, the bet closes at 0. Binary bets therefore have something in common with a traditional fixed-odds bet, except that we make a continuous price for the binary, between 0 and 100, allowing you to close your bet out before the final settlement to cut your losses or take your profit early.
Bonds (or government bonds)
Essentially an IOU issued by a borrower to a lender. Bonds are usually fixed-interest securities issued by governments, but can come in a variety of different forms. With a fixed-interest bond, the borrower normally makes interest payments on specified dates, often twice-yearly.
The break-even is the value on expiry at which no profit is realised on an option position. A 5300 FTSE® call bought at 14 means you will have a break even of 5314 (5300 + 14).
Similarly, a 5300 FTSE® put bought at 16 has a break even at 5284 (5300 – 16), as the market has to fall for the put to make money.
‘Buy’, ‘sell’, or hold recommendations or ratings given to individual company stocks by securities analysts, depending on how they think the stock will perform in the short- or long-term.
A market distinguished by rising prices.
Buy (also see up bet)
You ‘buy’ a market if you think it will rise (if you are opening a new bet). You also ‘buy’ to close out an existing ‘sell’ bet.
Trader jargon referring to the sterling/US dollar exchange rate. So called because the rate was originally transmitted between the London and New York exchanges via the transatlantic telegraph cable beginning in the
A call is a type of option granting the right to ‘buy’ at a fixed price, known as the strike.
An investor ‘sells’ a certain currency with a low interest rate and uses the funds to purchase a different currency at a higher interest rate, thus capturing the difference – or profit – between the two rates
Cash price (also see spot rate)
The price of an asset for immediate delivery. In other words, the actual price of an instrument right now; this term is often used for stock indices, whereas the synonymous term of spot is more often applied to forex and
Chicago Board of Trade
A government or quasi-governmental organisation that manages a country’s monetary policy. For example, the US central bank is the Federal Reserve, and the German central bank is the Bundesbank.
Visual representations of raw data. Investors can learn to spot recurring patterns in financial charts to help them make informed decisions on a market or a company.
The process of ending an existing bet. Closing a bet results in a profit or loss being realised.
A basic good used in commerce which is usually uniform across producers and can be traded on an exchange. Soft commodities are goods that are grown, such as coffee and sugar, while hard commodities are extracted through mining, such as gold and coal.
Chicago Mercantile Exchange
Commodity Exchange Inc, New York
Controlled risk bet
A bet which has a strictly limited maximum loss by virtue of a
Crude oil (and/or WTI)
The unrefined state of petroleum, crude oil is one of the world’s most important and well-traded markets. WTI or West Texas Intermediate is a type of low sulphur crude oil or sweet crude, used as an oil benchmark
Coffee, Sugar and Cocoa Exchange
The two currencies that comprise a forex rate. A forex rate is the amount that the first currency in the pair is worth expressed in terms of the
Daily Funded Bet (DFB)
A long-term bet on the cash price of an underlying instrument. Each day your bet remains open, we make a cash adjustment to your account to reflect the funding costs of your bet. We will also make dividend adjustments when applicable.
A trade or position that reduces or eliminates the risk of loss from an adverse price movement in a position already held.
A spread betting price is made up of a level at which you can ‘sell’ and a level at which you can ‘buy’. The level at which you can ‘buy’ is always the higher of the two prices and is called the offer.
South African Futures Exchange