Currency trading: a potential minefield for punters

Investors are attracted to foreign exchange trading by the chance to earn quick profits. But caution is required.

Who hasn’t noticed the ads that have popped up across the Web over the last few years, suggesting you trade the euro, dollar or yen?

The ubiquity of these ads is a sign of the growing phenomenon of foreign exchange trading by individual investors.

The market, which has an estimated daily turnover of £78 billion, has expanded as investors use Internet trading platforms to try and benefit from fluctuations in foreign exchange rates (hence ‘forex’ or ‘FX’). Platforms commonly used in Britain are Metatrader, the CitiFX Pro Platform and the FXCM Trading Station.

Investors are attracted by the chance to earn quick profits and the availability of large amounts of 'leverage' whereby high levels of borrowing are used to increase the potential return of an investment.

Low regulation, high risk

However, the market has also acquired a reputation for being somewhat shady, due to the high level of risk involved in trading, and the relatively low level of regulation.

The retail forex market has also been rocked by a number of scams, ranging from Ponzi schemes, to simple theft to false advertising. One recent example is the case of Michael MacCaull, a former New York forex trader who pled guilty earlier this year to defrauding his customers out of about $66 million (£41 million) through a Ponzi scheme. MacCaull was subsequently sentenced to 15 years and eight months in jail.

It is no wonder that budding forex traders hesitate before diving in.

Adam Lemon, a British expat based in Tel Aviv, is on the verge of opening an online forex trading account with £5,000. As he has studied a large number of trading strategies and spent a significant amount of time practising on a demo account, Lemon is relatively confident about his ability to turn a profit. But he is still concerned about currency trading on the Internet.
 
‘It is very problematic choosing a broker, because at this level you can really suffer from bad execution,’ Lemon, 39, told Citywire.

‘Most brokers take a spread - and the spread can massively widen whenever a really great setup occurs – and sometimes when you try to sell at a big profit, you get a "cannot connect to server message" – perhaps this is not always a deliberate rip-off, but it can seem pretty fishy sometimes.’

The ‘spread’ to which Lemon referred is the difference between the price at which a broker will sell one currency against another and the price at which a broker will buy such a currency pair.

The leverage question

Beyond issues of trade execution and Internet connections, many observers argue that allowing small traders to borrow vast amounts of collateral for their trades – in Britain, the limit is set at 200:1 – merely multiplies the chances of them losing money. Even if traders bet correctly on the movement of currency pairs, sudden shifts in the other direction mean their accounts can be wiped out in a matter of seconds, as the moves trigger stop losses – orders to sell placed below the current market price.