With over $4 trillion dollars a day traded in a global marketplace that never sleeps, foreign exchange (FX) trading is a booming industry.
It is hard to ignore the advertisements that make it sound easy to earn a good living in just a few hours a week. For reasons I won’t go into in this article, the sad truth is most people lose money trading the FX market with devastating social and financial consequences.
There is, however, a portion of the trading population that do actually fulfil their dreams and make a good living. Why? What separates them from the majority? Are there any lessons that businesses involved in international trade can learn from the mistakes of others?
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Amongst several other traits to be a successful trader it takes meticulous planning, a high level of discipline and education – all of which are valuable for businesses.
Have a trading plan for your business
A trader should have a trading plan that details products to be traded, money management rules plus strict entry and exit criteria that has been tested and refined along the way. For a business involved in international trade the equivalent would be a Treasury Policy document designed to be consistent with their risk profile and specific to the type of business being operated.
For instance, a conservative business owner that seeks to minimise financial risk on a low margin, imported product, with a 180 day billing cycle, should consider some form of risk management. A different business with more appetite for risk and a shorter billing cycle may opt not to deploy as tight a risk management policy.
Such a document can be as short as a page or as long as required to suit the complexity of your business. The key here is to have something documented that can be reviewed periodically throughout the year and adjusted, if required, to adapt to the ever-changing business and marketplace in which you operate.
Know when to call it quits
A good trader is a disciplined one that is not afraid to take losses. In fact, taking losses is a critical survival skill that often distinguishes the profitable traders from those that go bust. The successful businesses are continually trying to innovate in some way. This could be a new product line or process or a better way of doing something they have always done.
We hear of the very few success stories of how people persevered with their vision and stubbornly beat the odds to make it work when everyone else told them it wouldn’t. But if the new product is not selling as anticipated or a change of process adds unacceptable risk then the business may decide to bin that initiative. In fact, the majority of businesses do give up at some point; the problem is it may be too late, with devastating consequences.
Quite often importers are faced with an out of the money hedge that they may not be able to fulfil due to unforeseen circumstances or lower than expected sales. In this instance there is a temptation not to close out the position because they don’t want to take a loss. So instead of taking the loss at the time they become aware of it, they run the risk of the loss becoming even larger should the exchange rate continue to move against them.
There is a common understanding amongst experienced FX traders that the first loss is often cheapest (and easiest) to take. It becomes much harder mentally to come to grips with and accept taking a larger loss later on. So businesses can learn a lot from this approach to risk management in general by accepting an affordable loss early.
Education is key
A successful trader wasn’t born a trader, they learnt along the way. Whilst making international payments to overseas suppliers should be very easy to do, FX is a very specific field with many complexities that most businesses don’t understand. For many of those small businesses and individuals familiar with making these payments through a bank, they may not know much about FX. It is often this ignorance that can come back to bite business, so as a safeguard it pays to get educated.
If international payments are a very small part of your business, with little financial risk or minimal margin pressure, then simply speaking to an FX dealer and asking some basic questions about risk management solutions should be enough. But for some, a diploma in financial markets with a specific FX focus might be a better way to go.
So, in summary, get educated in order to put together a trading plan and if that great idea is not quite reaching its potential, look deeply into the reasons why and perhaps consider refining or stopping before the small loss becomes a very large one.