Diana Clement: Try your hand at forex trading

It's the world's largest, most liquid, and most influential financial market: foreign exchange (forex). It's a market that virtually everyone who has ever left the country has traded in. Increasingly, private investors are using the market to try to make a profit.

At a basic level forex trading is quite simple. You have a hunch, or even better some research suggesting, say, that the kiwi dollar is going to fall against the US dollar or another currency. You buy that other currency and when the kiwi falls, you buy it back again and take a profit along the way.

It is, of course, possible to walk down to your nearest bank branch with a wodge of New Zealand dollars in your pocket and trade them in for greenbacks, which you then stuff under your mattress.

But increasingly private individuals are treating forex as a commodity that they trade online or through a broker. Those who want to make (or lose) even more money can trade on margin - which means they effectively borrow money and trade that, thus amplifying their gains or losses on their capital.

When CMC Markets - a UK company - opened its New Zealand offices it was surprised just how popular foreign exchange trading was with Kiwis. In the UK, says CMC's general manager for New Zealand, Sargon Elias, about 5 per cent of the company's business is in foreign exchange. "Here about 35 per cent to 40 per cent of clients want to do forex only."

Proponents of forex trading say it's not as risky as some other investments. OM Financial's head of derivatives, Kevin O'Sullivan, says equities can be more volatile than currencies and cites the tumble that Telecom's share price took when the Government announced the unbundling of the local loop.

Sensible forex traders, he says, use systems to stop themselves losing too much such as stop loss orders.

"People who manage their risk know from the moment they do a trade what their worst case scenario is and they know when they are going to take a loss," says O'Sullivan.

Conversely, many traders get out of a market too soon once they've made a profit. "People sold the kiwi at 76c (against the US dollar) and they brought it back at 69c. Three months later it went to 59c." To make a success of forex trading you need to follow foreign exchange and economic news very closely indeed. Trading platforms often provide free news and economic data updates. There are also forex news feeds and data on websites such as sharechat.co.nz.

Just how careful you need to be with forex trading was demonstrated over the past week with the kiwi dollar defying gravity and bouncing above 65c to the surprise of many.

Investors had been shorting the currency, says Sullivan, betting on it going lower. As a result, some people are nursing losses of $5000 to $10,000, and even up to $100,000.

Every company is different, but typically you need to stump up about 1 per cent to 3 per cent of the face value of the trade.

At OM Financial, for example, minimum trades are $100,000, with the client needing to provide 3 per cent or $3000.

Fees also vary, with companies such as CMC Markets taking a small interest charge on outstanding positions each night - roughly $2 per $10,000 position. At OM Financial, where clients have access to advice from brokers, fees are 0.05 per cent on transaction - which equates to $50 per $100,000 position or less if you're a large volume trader. You also need to look at the spread between buy and sell prices.

Before you decide that your crystal ball will tell you where the kiwi is heading in the next week, month or year, and start trading, you might want to try one of the forex trading simulators that can be found online.

You should also read a good book or two (such as FX Trading by Alex Douglas) to check that the market is really for you.

Another issue to be aware of is that, sadly, forex trading is unregulated in New Zealand, with investor protection pretty thin.

Some companies, such as OM Financial and CMC Markets, voluntarily submit themselves to regulation. Others may be forced to do the same eventually.

That's because the Securities Commission is considering regulating leveraged forex trading as "futures trades" under the Securities Markets Act, says Meredith Pearson, senior solicitor at the commission.

Regulation, should it happen, would mean among other things that client money would need to be segregated from business capital - giving investors greater security.

Another down side is that forex trading is an industry that seems to attract cowboys hoping to make a fast buck from unwitting investors.

Just last month the Consumers' Institute gave a warning that the get-rich-quick season was upon us and to beware of companies offering expensive seminars and trading platforms.

It mentioned in particular Icon FX, a company that uses seminars to sell "sophisticated" online trading software. The software costs US$3000 ($4620) and you'll also pay a commission for every trade and US$118.95 for ongoing data feeds.

Case study

Tommy Wibisono's foray into forex trading has allowed him to give up his day job in marketing. Instead, he trades foreign currencies on margin in his own name using the CMC Markets platform.

Wibisono started investing in equities after being invited to a seminar by a friend he was visiting in Sydney. A few years and seminars later and he moved on to forex trading and is now making at least 40 per cent return on his capital each year.

Wibisono's tips for new investors include:

1 Go to seminars and workshops to learn how the market works before committing real money.
2 Make sure you understand the risks - which can be great.
3 Develop your own strategy.
4 Choose a broker with a quality institution, and make sure they provide extensive tools and research.
5 Start with small positions until you're successful.
7 Be disciplined, avoiding the duel evils of fear and greed.