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I'm trying to learn forex trade. Though I have done a lot of research and read many guides, I'm still quite confused.

In particular I need help on the following questions.

First let's say my account currency is USD

Consider the pair EUR/USD, 1.3000/1.3001

  • If I buy 1,000 unit of this pair, does that mean my account balance will be deducted by 1300.1 USD and I get 1000EUR? Am I really selling sth and buying sth just like what I do with a bank teller?
  • If I sell 1,000 unit of this pair, what will happen then? I will be taken some USD from my account balance? But I don't have any EUR, how can I "sell" it?
  • If I open a position by buying EUR, do I have to close that position by selling same unit of this pair later?
  • I am told that with Interactive Brokers, I can easily exchange my usd to cad at the market price with a low fee, as shown in http://blog.plsoucy.com/2013/03/converting-usd-cad-interactive-brokers-howto/. Why? Is this the same thing as "selling a usd/cad pair"? If yes, then why many people are using money transfer service (e.g. transferwise) which costs a lot more?
  • I have read a guide book saying "actually nothing is sold or bought in the background, the only thing you do is to tell others your intention to buy/sell a currency pair". What does this mean?
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I will answer your question from the assumption that you are referring to “spot” forex trading from a “margin” account (although the answers could be applicable to trading futures or other forex instruments even with no leverage or 100% margin), whether exchange-traded or off-exchange:

  1. Trade example: If you buy 1000 units of EUR/USD and the ask price is 1.3001, that means the USD value of the 1000 euros you bought are roughly $1300.10. In a margin account that allows you to trade but never delivers the actual currency (i.e. trades are always cash-settled) this means that you will be deducted the margin requirement to establish the trade, at 10:1 leverage for example, 10% of the USD trade value would be required as margin or $130.01, which can be thought of as collateral that you might get back when the trade is closed. (I said "might-get-back" as there could be an adverse market move that causes a negative balance if the market gapped sufficiently and depending on the broker’s execution policy) (more on margin accounts here: https://www.sec.gov/oiea/investor-alerts-and-bulletins/ib_marginaccount and here: https://www.cftc.gov/IndustryOversight/Intermediaries/FCMs/fcmsegregationfunds.html). In the above example, once you open the trade, the profit or loss will be determined based on whether the market price goes above or below your purchase price, where each pip or 0.0001 change in the EUR/USD rate will equal roughly 10 US cents in profit or loss.
  2. If you then proceed to sell you will simply either realize a profit if you sold at a higher rate that the purchase price, or a loss if you sold at a lower rate, or break-even if you sold at a similar rate – less the spread plus any commission (in order to cover the transaction cost). For example, if you bought at 1.3001 and sold at 1.3011, you would have a profit of 10 pips or roughly $1 USD, which would be added to your balance. If you sold however in the same scenario at 1.2991, you would have a loss of $1 USD deducted from your available cash balance. To break even you would need to be able to sell at the same price you purchased, so the bid would need to be 1.3001 to exit the trade flat with neither a gain nor loss.
  3. Yes, eventually you would have to sell an equivalent amount to close the trade (or partial amount to partially-close the trade), otherwise there could be margin-call if the trade moved against you sufficiently and there wasn’t enough of a balance left in the account to cover losses, unless you had a stop-losses order in place which could help close the trade at a price that would be a pre-determined loss. There are also cost-of-carry charges that are applied depending on whether you are buying or selling, and while these could earn you positive credits in some cases, many major currencies such as the euro could charge debits on the cost-of-carry (known as carry trade, premiums, or overnight charges) whether you are buying or selling. https://en.wikipedia.org/wiki/Cost_of_carry
  4. When using a broker for foreign exchange (Forex), it’s important to ask whether they can deliver the counter currency to you physically, or if all trades are just cash settled (i.e. would you be able to Withdraw CAD to your bank account or how could the broker otherwise deliver the CAD currency to you?) If the broker doesn’t offer physical delivery, then it means the service is only for speculators or hedgers, and not for actual use of the currency in the tangible sense (such as needing it for travel or to make a foreign purchase of property).
  5. What you read sounds like it was referring to the non-deliverable “contracts” in the over-the-counter market, like the ones I mentioned where they are cash-settled and no delivery is taking place. However, the brokers and dealers are usually trading the actual underlying currency in the background in order to manage their inventory and risk in some cases, as a market-maker or agency, depending on their business model. In those cases, real forex trades in the actual spot market settle on a 2-day basis, and is usually handled by the broker’s banks or prime-broker on their behalf, and will involve the use of foreign currencies being transferred or other ways to reconcile what is owed before the 2-day settlement period is over. Retail trades don’t usually deal with that type of a setup, but it has been offered before, and is usually the case with exchange-traded products such as certain futures contracts in which you can take delivery of the underlying.

(Disclosure: I am affiliated with ForexBrokers.com, and also hold a series III license with the NFA and registered with the CFTC as a CTA, publishing-only)

  • Does "physical delivery" mean "electronic transfer" in 2019? – RonJohn Aug 19 at 11:15
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    Good answer, and welcome to the PF&M community. – Lawrence Aug 19 at 21:05
  • Thanks, Lawrence! @RonJohn yes, delivery could (depending on the brokerage) be via wire-transfer (or ACH) if that is what you mean by electronic, as it would still represent the actual underlying asset in terms of cash that the user could withdraw as it would have to be sent to a bank or brokerage account in their name. – Steven Hatzakis Aug 19 at 21:10
  • Yes, wire/ACH is what I meant. – RonJohn Aug 19 at 21:27

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