The Forex Market involves buying, selling, or exchanging currencies from all around the globe. It determines the exchange rates of all global currencies and is the largest financial market in the world with a daily volume of $6.6 trillion in transactions.
The participation of Governments, Banks, Global Companies, and Institutional investors make up the majority of this market. Retail Forex Trading is a smaller segment of the Forex Market where retail investors speculate on the exchange rates between various currencies.
How does Forex Market work?
The two main factors that move the forex market are supply and demand. If the supply is more than the demand for a currency, its value will decrease, and vice versa. Other complex factors also affect the value of a currency such as a country’s economic output, FDI inflow, the balance of payments, intervention or pegging of currency by the country’s government, social factors, and political conditions. But ultimately the supply and demand of a currency in the global market determine its price.
Under the Bretton Woods system of 1944, all currencies were pegged at the same value against the US dollar and central banks agreed to maintain that fixed value by buying their currency when it was devalued and printing more currency if it became too strong.
But after the Bretton Woods agreement collapsed in 1971, currencies were allowed to float freely in global forex markets just like commodities and stocks. The US dollar still remained the Base Exchange currency for global trade. And as the demand for one currency became stronger or weakened against the USD, it either valued higher against the US dollar or devalued against the dollar depending on the demand.
What is Forex Trading?
Forex Trading is the process of buying and selling currencies in the Forex market. Your bank, governments, global companies, and speculators use the forex market to exchange currencies. Currency prices continually fluctuate depending on the above factors.
Speculators and investors make up 5.5% of the forex market as small and institutional investors buy and sell currencies intending to make a profit from the difference in exchange rates. This is called retail forex trading.
For example, 1 USD (US dollar) is currently selling at 106.29 KES (Kenya shilling). That trade is called USD/KES in the forex market. The USD is the base currency (that you want to buy) and KES is the quote currency (that you want to sell). So you can buy 1 USD for KSh 106.29 in the forex market.
So, if you want to go abroad for study or travel, you will have to buy USD at the current USD/KES quote from your bank. Your bank will normally add a ‘spread’ or commission to the quoted rate. In this case, you are effectively trading forex in retail and your bank is acting as your broker in the forex market.
The Capital Markets Authority began regulating Kenya’s retail forex market in 2018 and allowed retail traders, investors and brokers to take part in this market. This boosted currency exchange & forex trading activities and there are now estimated to be over 70,000 traders in Kenya who regularly participate in the market to speculate on currency fluctuations.
How can you trade forex in Kenya?
Under the Capital Markets Online Foreign Exchange Trading Regulations enacted in 2017, the CMA provides three types of licenses:
- The Dealing Foreign Exchange Broker
- The Non-Dealing Foreign Exchange Broker
- The Money Manager
The Dealing Brokers and Non-Dealing Brokers (a and b) offer derivative instruments on forex but they do not offer investment management to clients. However, the Money Manager (c) can manage the forex portfolio of a client.
The CMA does not regulate individual forex traders but brokerages must get the relevant license from the CMA to offer Forex Trading instruments. The CMA has licensed three Non-Dealing Online Brokerages. Only one company is licensed as a money manager.
You can trade forex in Kenya through any Dealing or Non-Dealing Broker or Money Manager licensed by the CMA. For this, the broker will usually charge you a commission or spread.
The spread of a broker is measured in percentage points or ‘pips’. Brokers can either charge Fixed Spreads or Variable Spreads which depends and varies from broker to broker.
Basic steps involved in opening a forex account:
- Compare the types of accounts on the broker’s website. Decide on the type of account based on your needs and resources.
- Fill out an application form and complete KYC (Know Your Customer information).
- Upon successful completion, you will be given a username and password.
- You can log in to the client portal of the broker’s website using the given credentials.
- Once you successfully transfer funds from your bank account, you will be ready to start trading.
What should you look for while choosing a Broker?
As an investor, you should always choose a CMA regulated broker.
The CMA will help to protect your money from fraudulent activities or exposure to an excess of risk by maintaining safe trading conditions.
The CMA also ensures that the broker doesn’t use your funds for their own benefit.
In the case of any disputes, you can approach the judiciary to seek damages.
The CMA makes sure that regulated brokers submit financial reports periodically to keep the investors safe.
There are only three forex brokers that have been regulated by CMA as Non-Dealing Online Brokers in Kenya. They are:
-EGM Securities which operates FXPesa
The CMA advises against using a foreign broker but if you prefer to take the risk, make sure that the broker is supervised by a reputable regulatory body such as the UK’s FCA, the Australian ASIC, or Cyprus’s CySEC. Regulators make sure that proper trading environment & safety is ensured for investors.
It is always best to choose a broker that offers local customer support and local deposit/withdrawal methods for easier transactions.
Whether you are a new investor or an experienced one, always start off by trading on a demo account when switching to a new platform. While most platforms offer the same features, they usually look or feel different. A demo account will help you to get a grasp on all the tools offered by the platform.
Demo accounts also help you to learn the specifics about the platform, like the spread or order entry procedure.
Once you finish trading on a demo account, you can take a look at all the profits or losses you have incurred. This can help you build a new strategy or check the effectiveness of the one you have in mind.
Risks of Forex Trading
Retail Forex Trading is a very risky business, riskier than traditional investments like stocks.
Some common risks are:
Leverage is used to increase the returns on investment by borrowing money from a broker. It increases your market exposure and thus puts you at a greater risk. During market fluctuations, there is a chance to lose your invested capital and even more in some cases.
The forex market is highly volatile and this volatility helps speculators to make a profit. This attracts a lot of short-term traders and speculators but the market is unpredictable and can go against you at any time. The market also remains inaccessible over the weekend so any unfavorable development during this time might lead to significant losses.
The liquidity of a market stands for the ease with which you can open or close your trading positions at the price you are expecting or similar to the same. While the forex market is generally considered to be one of the most liquid markets, there are times when it goes through stages of low liquidity. The forex market exhibits low liquidity on holidays and weekends as banks are closed during this time.
The forex market is considered risky, especially for beginners. This risk increases if the investor does not have negative balance protection or a stop-loss in place.
Negative balance protection prevents your account balance from going negative when you incur substantial losses. So make sure your broker offers negative balance protection and stop-loss as a safeguard against undesirable developments.
Protect yourself against scams
As there was no regulatory body in Kenya to monitor the forex brokers until 2018, there are still many illegal and unregistered brokers in Kenya. Over 100 such companies are yet to get their licenses from CMA.
The biggest Forex scam in Kenya was the VIP Portal. In 2013, the company promised clients to invest their money in forex trading on their behalf. They promised that they would double their money. Moreover, the company also promised investors an additional 5% of the money for every person they would bring in as a new investor. Over 13,000 individuals deposited their money and the losses were reported to be more than $2.9 million from Nairobi alone.
Some common forex scams you need to avoid are:
The Signal-seller scam
Signal-sellers are traders or companies that offer professional recommendations on favorable times to buy or sell currencies in return for money. These signals are often wrong and can result in losses for you.
A ‘Robot’ is an automated trading program. The scammers claim traders would be able to earn even while sleeping. These systems often don’t work and many of them have never undergone a formal review or test.
Fake Broker or Investment Scheme
They claim to double your money or offer big returns without proof. They are not regulated and they keep your money for themselves rather than investing it.
Despite the risks, the forex market is crucial for the global economy. Speculators or traders can use the forex market to invest money but they need to be cautious.
It is important to first educate yourself about the forex market before starting to trade. Learn the basics first, then practice on a demo account, and finally start investing in small amounts.
You should also learn to use risk management tools like stop-loss, negative balance protection, risk-reward ratio to name a few. These will limit any losses and protect you from losing your entire capital.
Lastly, make sure you trade in a regulated environment so that, if something goes wrong, you can seek redress.