Top Reasons Forex Traders Fail

The forex market is the largest financial market in the world, with more than $5 trillion traded on average every day. However, while there are many forex investors, few are truly successful. Many traders fail for the same reasons that investors fail in other asset classes. In addition, the extreme amount of leverage—the use of borrowed capital to increase the potential return of investments—provided by the market, and the relatively small amounts of margin required when trading currencies, deny traders the opportunity to make numerous low-risk mistakes.

Factors specific to trading currencies can cause some traders to expect greater investment returns than the market can consistently offer, or to take more risk than they would when trading in other markets.

Forex Market Trading Hazards

Certain mistakes can keep traders from achieving their investment goals. Below are some of the common pitfalls that can plague forex traders:

• Not Maintaining Trading Discipline: The largest mistake any trader can make is to let emotions control trading decisions. Becoming a successful forex trader means achieving a few big wins while suffering many smaller losses. Experiencing many consecutive losses is difficult to handle emotionally and can test a trader's patience and confidence. Trying to beat the market or giving in to fear and greed can lead to cutting winners short and letting losing trades run out of control. Conquering emotion is achieved by trading within a well-constructed trading plan that assists in maintaining trading discipline.

https://www.youtube.com/watch?v=giSBLO_9KRQ

• Trading Without a Plan: Whether one trades forex or any other asset class, the first step in achieving success is to create and follow a trading plan. "Failing to plan is planning to fail" is an adage that holds true for any type of trading. The successful trader works within a documented plan that includes risk management rules and specifies the expected return on investment (ROI). Adhering to a strategic trading plan can help investors evade some of the most common trading pitfalls; if you don't have a plan, you're selling yourself short in what you can accomplish in the forex market.
• Failing to Adapt to the Market: Before the market even opens, you should create a plan for every trade. Conducting scenario analysis and planning the moves and countermoves for every potential market situation can significantly reduce the risk of large, unexpected losses. As the market changes, it presents new opportunities and risks. No panacea or foolproof "system" can persistently prevail over the long term. The most successful traders adapt to market changes and modify their strategies to conform to them. Successful traders plan for low probability events and are rarely surprised if they occur. Through an education and adaptation process, they stay ahead of the pack and continuously find new and creative ways to profit from the evolving market.
• Learning Through Trial and Error: Without a doubt, the most expensive way to learn to trade the currency markets is through trial and error. Discovering the appropriate trading strategies by learning from your mistakes is not an efficient way to trade any market. Since forex is considerably different from the equity market, the probability of new traders sustaining account-crippling losses is high. The most efficient way to become a successful currency trader is to access the experience of successful traders. This can be done through a formal trading education or through a mentor relationship with someone who has a notable track record. One of the best ways to perfect your skills is to shadow a successful trader, especially when you add hours of practice on your own.
• Having Unrealistic Expectations: No matter what anyone says, trading forex is not a get-rich-quick scheme. Becoming proficient enough to accumulate profits is not a sprint—it's a marathon. Success requires recurrent efforts to master the strategies involved. Swinging for the fences or trying to force the market to provide abnormal returns usually results in traders risking more capital than warranted by the potential profits. Foregoing trade discipline to gamble on unrealistic gains means abandoning risk and money management rules that are designed to prevent market remorse.
• Poor Risk and Money Management: Traders should put as much focus on risk management as they do on developing strategy. Some naive individuals will trade without protection and abstain from using stop losses and similar tactics in fear of being stopped out too early. At any given time, successful traders know exactly how much of their investment capital is at risk and are satisfied that it is appropriate in relation to the projected benefits. As the trading account becomes larger, capital preservation becomes more important. Diversification among trading strategies and currency pairs, in concert with the appropriate position sizing, can insulate a trading account from unfixable losses. Superior traders will segment their accounts into separate risk/return tranches, where only a small portion of their account is used for high-risk trades, and the balance is traded conservatively. This type of asset allocation strategy will also ensure that low-probability events and broken trades cannot devastate one's trading account.

Managing Leverage

Although these mistakes can afflict all types of traders and investors, issues inherent in the forex market can significantly increase trading risks. The significant amount of financial leverage afforded forex traders presents additional risks that must be managed.

Leverage provides traders with an opportunity to enhance returns. But leverage and the commensurate financial risk is a double-edged sword that amplifies the downside as much as it adds to potential gains. The forex market allows traders to leverage their accounts as much as 400:1, which can lead to massive trading gains in some cases - and account for crippling losses in others. The market allows traders to use vast amounts of financial risk, but in many cases, it is in a trader's best interest to limit the amount of leverage used.

Most professional traders use about 2:1 leverage by trading one standard lot ($100,000) for every $50,000 in their trading accounts. This coincides with one mini lot ($10,000) for every $5,000 and one micro lot ($1,000) for every $500 of the account value. The amount of leverage available comes from the amount of margin that brokers require for each trade. Margin is simply a good faith deposit that you make to insulate the broker from potential losses on a trade. The bank pools the margin deposits into one very large margin deposit that it uses to make trades with the interbank market. Anyone that has ever had a trade go horribly wrong knows about the dreadful margin call, where brokers demand additional cash deposits; if they don't get them, they will sell the position at a loss to mitigate further losses or recoup their capital.

Many forex brokers require various amounts of margin, which translates into the following popular leverage ratios: