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Minimizing risk in Forex Trading
https://www.safeinvestingsites.com/minimizing-risk-in-the-forex-trading-useful-software-forex-trendy/ Why did Forex Traders fail? One of the reasons is the lack of risk management! Most people try Forex trading because they heard or read the success story of Forex Trader somewhere. He may be a relative, friend, or experienced trader. They jump into Forex trading and here they get the option of Leverage or margin. Every Forex trading account provider allows you to trade big against less balance in your account. It is good but only experienced traders can use it for profit. It gives you a bigger chance to earn money but, even bigger risk opens, as you may lose entire money in your account in just one trade!!! It is no joke. It happens to every trader because of shame he doesn’t tell others about his huge loss. There are many reasons to fail in Forex trading like over trading, trading addiction, not adapting to market conditions, trade without a proper plan, and most important unrealistic expectations. The trader expects a huge profit in a single trade and even if he is in loss, he doesn’t exit the trade by taking a minimum loss. He waits, waits, and waits until the end. The result is obvious. Huge Loss! Here comes the Forex risk management calculator to help you. There are many Forex risk management calculators in the market. You can download it from the Google play store. Using the Forex risk management calculator you get an idea about how to trade safely in the Forex market
Foreign Currency ACB Reporting for Day Trading Forex
Hello, I am looking for any advice and insight into tracking trading and investments with USD borrowed margin involved as a Canadian, as well as Day Trading / Forex multiple pairs. It sounds like it is possible to track the Adjusted Cost Base of Forex Trading through tracking long and borrowed positions when doing a spot trade on a currency pair such as EUUSD with Canadian Currency, but I can't find too many resources on how-to, or software that assists with this other than. https://www.adjustedcostbase.ca/blog/calculating-adjusted-cost-base-with-foreign-currency-transactions/ Holding Canadian Dollars as the Account Currency in a Forex Trading Accouunt My understanding is that 1) Going long on EUUSD, with EUR being the base currency, USD being the quote currency, you're purchasing EUR, and borrowing USD to cover the EUR position? 2) Going short on EUUSD, you're borrowing EUR and selling it, and also borrowing USD to go long on USD position? Anyone have any insight, or resources, or referrals to trading/investment tax accountants? If the frequency of trades are say 2-3 times a week (with say 1-2 trades per day, enter and exit same day), but this is not a full-time profession, would this be better tracked as capital transactions (therefore need to track ACB in a capital account) or just claim these transactions as income transactions for simplicity? Thanks
Forex is the short way of saying “Foreign Exchange”. This means the global market for exchanging international currencies, also known as the FX market. When someone prices or exchanges a currency against another, the exchange rate is best on the particular forex trading pair (i.e., both currencies involved in the pair). Currency pairs are typically priced out to four decimal places, depending on the currency denomination, where one ten-thousandth of a unit of currency is known as a pip (i.e., 0.0001 unit), which is the smallest price increment (in addition to fractional-pips). The EUUSD, which is the most widely-traded forex pair, is an example of the Euro (EUR) currency against the US dollars (USD) currency. When trading one unit of EUUSD, you can calculate the price in USD (i.e., a price of EUUSD 1.3000 indicates $1.30 per euro). Conversely, when exchanging the USD/EUR, each unit of USD (i.e. each dollar) will have the prace of a specific number of euros (i.e., a USD/EUR price of 0.7700 indicates €0.77 per dollar). A speculator expecting the price of the EUUSD to go up. He will buy the EUUSD pair long (buying a pair to open a trade can be a bullish or long position). Whereas, a speculator anticipating a drop in the price of the EUUSD may sell the pair. (bearish or short position: selling to open a trade).
Largest international market Globally
The forex market is decentralized across the globe. It consists of dealers such as central banks, private and public banks, non-bank intermediaries, brokerages, and large corporations such as insurance giants and other participants engaged in international finance.
TheForeign Exchange marketis the largest globally, with nearly $6 trillion in average daily volume traded as of April 2019, according to the latestBISTriennial Survey of Central Banks.
The FX market suffers the influence mainly by each government’s monetary policy, the supply, and demand of the global economy. As well as international trade agreements, and users and suppliers of currencies (hedgers), in addition to speculators.
Market integrity and progress
While there have been cases of forex market manipulation by the biggest banks and dealers in the past, the amount of influence any one entity can have on the prices of major currencies is negligible. This resistance to serious manipulation risk is due to the enormous amount of trading and resulting liquidity available. The FX Market itself has high price integrity. Because it is an electronic market, efficient and with a certain size. Participants must still adhere to best practices.
Efforts such as theGlobal FX codewere launched to encourage forex dealers to uphold the best-execution where the best price available is given to traders.
These efforts are why the spreads and trading commissions continued to improve over the years, as the FX market evolved. In addition, regulators have competed to increase local market integrity and efficiency by creating more strict regulations. These come from the top-tier financial centers such as the US, UK, Singapore, Japan, Australia, among other advanced economies.
Investing and trading in the forex market
As an asset class, Forex is well-established and offered by many regulated brokerages from within a margin account.
The use of leverage is what makes forex trading more risky than non-margin investing.
Margin-based trading used by investors as well as self-directed traders and fund managers, thanks to the range of risk-management tools available within forex trading platforms (mobile, web, and desktop software). Wiseinvest provides trading signals with risk-management.
Forex market research and analysis
There are two primary ways for traders to assess and identify trading opportunities in the forex market.
One is through the use of fundamental analysis, which looks at economic news and data released by governmental agencies, as well as market sentiment data.
The second is through technical analysis, which pertains to the historical and current market price of the underlying currency.
Advanced forex trading strategies and algorithms
The foundation of successful trading in the forex market is having a trading strategy. It’s based on a specific methodology that best suits your trading needs. Strategies could be manual, automated, or a combination of both.
Over the past decade, there has been a proliferation of automated trading strategies made available for retail traders.
And while there are many serious traders with established track records for their trading systems, there are many more low-quality trading systems falsely marketed as high-quality by overly eager affiliates, making it harder for investors to navigate the market for trading signals.
There has also been an increase in the social copy trade. Where an operator can mimic other operators’ businesses in real time.
Whether using a copy-trading platform or an automated trading system, in almost all cases, this type of investing is considered self-directed and doesn’t require a power-of-attorney or another third-party money manager to handle your account. Unlike other copy and social trading platforms, Wiseinvet’s AI has the ability to execute a huge set of market data. It does by combining technical and fundamental analysis. This strategy can increase the accuracy of trading signals.
Self-directed forex investors
Compared to investing in a managed fund, there is greater responsibility. Traders put it on self-directed traders who use trading systems. A self-directed trader should conduct more detailed due diligence. It can avoid falling for the countless low-quality trading systems that exist on the internet.
Good quality trading systems will have established track records (historical results), and there will be other quantitative performance rankings, along with qualitative data about the strategy developers and any proprietary math used to operate the strategy.
Bad quality trading systems will usually promise high returns will not equally emphasizing potential risk.
There are no guarantees that a strategy will perform well. But conducting proper due diligence can help traders assess various trading systems. They consider using them to aid their trading or investment strategy.
Hi, Sorry in advance for the wall of text! Recently I've tried to add more long term investing to my skills repetoire. I have developed a strategy that provides buy/sell signals based on a weekly time frame for Commodities, Indices, Bonds, and even Forex. Along with this I've created my own system for portfolio optimisation using all assets my broker provides. In tandem this has proven to be a pretty killer combo, from backtesting anyway. I've tried to implement all of this into some forward testing on my demo account but am having issues understanding how to execute everything correctly. To help make it clearer I'll outline the basics of how my system works: Once a week just before weekly candle close, my software will calculate how to best allocate my capital amongst a number of assets - for example, 60% in a US index, 20% in a Euro bond, 20% in Gold - this is assuming my trading system agrees all of these assets are suitable to go long. If for example it deems Gold to not be a good trade, the software will allocate 20% of my capital to the next best thing, Silver for example, then checks against the strategy etc, until everything agrees. Let's assume I have a trading account with $10,000 in and ready to trade/invest. Due to different margin requirements of each asset being traded, and the fact the price of certain indices may exceed $20,000 or so, it's harder than just allocating 60% of $10,000 towards a US index for example. For my more traditional trading, it's easy to calculate position sizes when the risk percentage and distance to stop loss are known. But with the new strategy, no stop loss is calculated and it is only made clear next week once the software and strategy are run whether a current open position needs closing, or if it needs to be increased/decreased in size at all. Therefore my question is how do I determine position size for each asset? My leverage is fixed for the entire account so that can't be variable per trade. I can't allocate a huge amount of my available margin, as worst case I could have a week which results in a relatively large percentage loss and I'd prefer to not get a midweek margin call. With a much larger investing account the maths all makes sense to me, but trying to accomplish all of this with a smaller amount makes the sizing and management of traders much more difficult to figure out in my head. Thanks in advance for any tips/advice. I apologise if a topic similar to this has been brought up previously or if I'm missing something obvious! I hope everything made sense and please let me know if you have any more questions or need any more info on my system etc.
Forex Margin Trading : a trading system where investors can trade at USD 100,000 but only use 1% guarantee is USD 1,000 . Forex Margin Trading is a form of investment in which the relatively small margin we can transact sell or buy currencies in the world with a high rate of return . Instruments traded in the forex market is a currency pair ( pair ) such as EURUSD , GBPUSD , USDJPY , AUDCHF , GBPJPY etc . Market Participants : Central Banks , Foreign Banks , Institutions Non Bank Financial ( Brokers , Insurance Companies , Investment Manager , etc. ) , Exporters / Importers, Traders Large , Investor ( Individual / Corporate ) share buying tips : Trading Forex Trading traded with Assurance System that has a main condition as follows: 1. Transactions carried out with a two-way Open BUY - SELL Close Open SELL - BUY Close 2. The investment fund is required only for WARRANT position open trade (Open BUY or SELL Open) and if the position of the trade has been closed (Close BUY or Close SELL), and may be in withdrawal or in traded back for the next transaction. 3. The purpose of the transaction is to gain of SPREADS buying and selling by the formula calculation of profit / loss. 4. Guarantee capital to trade starting from 1 - 10% or under the rules of account opening and regulations of Stock Index Futures Trading and Forex Trading. 5. Transactions carried out in standard units LOT with MINIMUM ot or multiples thereof. 6. Online Trading Transactions performed with Traders use Metaquotes Software Version 4:00 or 5:00 TAKORADI, Ghana https://moneyonlineinvestment.com/\_/share\_buying\_tips/r346179\_Who-is-share-buying-tips/Ghana.html
ECN. Used most by professional traders. Difficult platform for beginners
Minimum deposit $10000 (or $3,000 if under 25yo) * Well diversified -Oanda
Market maker. Second largest retail FX brokerage in the US. Easy platform for beginners.
No minimum deposit
Not well diversified, but well capitalized -Gain Capital (whitelabel forex.com) *Market Maker *Fair spreads *Minimum deposit $250 *Well diversified -FXCM Inc
ECN. Largest retail FX brokerage in the US
Minimum deposit $2000
Not well diversified. CAUTION: FXCM nearly went bankrupt in Jan-2015 due to a lack of diversification and low capitalisation. As a result FXCM LLC was bailed out with a large loan which may prove difficult to pay back. Be warned that their business may not be sustainable in the long term. -MBTrading
ECN. Mid-sized retail FX brokerage
Minimum deposit $400
International Only- -LMAX (whitelabel DarwinEx) *DMA broker based in the UK. Note that as a DMA broker LMAX eliminates the ability for LPs to last-look transactions. This may result in reduced liquidity during volatile times as liquidity providers would be likely not to risk posting liquidity to LMAX's pool. *Tight spreads *Minimum deposit $10,000 *Fairly well diversified -Dukascopy *ECN based in Switzerland, but available elsewhere depending on local regulations. *Tight spreads *Minimum deposit $100 *Fairly well diversified -IC Markets *ECN based in Australia *Fair spreads on standard account, tight spreads on professional accounts. *Minimum deposit $200 *Fairly well diversified -Pepperstone *ECN broker based in Australia. *Fair spreads on standard account, tight spreads on professional accounts. *Minimum deposit $200 *Not well diversified Software / Apps: Desktop/mobile
Apps are typically broker dependent. Some brokers have their own proprietary software, while others lease common software like Metatrader or NinjaTrader. Some software has a large development community for indicators and EAs.
Terminology/Acronyms: www.forexlive.com/ForexJargon - Common terms and acronyms FAQ: I need to exchange money, how do I do it? This isn’t what this sub is for. Your best bet is using your bank or an online exchange service. Be prepared to pay a hefty fee. I have money in one currency and need to exchange it into another sometime in the future, should I wait? Don’t ask us this. We speculate intraday in FX and shouldn’t be relied on to tell you what’s best for you. Exchange the money when you need it. I have an FX account, should I start trading demo or live? This is highly debatable. You should definitely demo trade until you have mastered how to use the trading platform on desktop and mobile. After that it’s up to you. Many think that the psychology of trading live vs demo trading is massively different. So it may pay to learn to trade live. Just be warned that most FX traders lose almost their entire first account so start with a low affordable balance. What’s money management? Money management is a form of risk management and is arguably the most important aspect of your trading when it comes to long term survival. You should always enter trades with a stop loss - the distance of the stop allows you to calculate how large of a percent of your account balance will be lost if your trade stops out. You can run a monte carlo simulation to figure out the risk of having a number of trades go against you in a row to drain your account. The general rule is that you should only risk losing 1-4% of your account per trade entered. More on this here: www.investopedia.com/articles/forex/06/fxmoneymgmt.asp www.swing-trade-stocks.com/money-management.html What about automated trading? Retail FX traders have been known to program “Expert Advisors” (EAs) to automate trading. It’s generally advisable to stay away from that until you’re very experienced. Never buy an EA from a developer because the vast majority of them are scams. What indicators are best? That’s up to you to test and find out. Many in this forum dislike oscillating indicators since they fail to capture the essence of what moves price. With experience you will discover what works best for you. In my experience indicators that are most popular with professional traders are those that provide trading “levels” such as pivot points, fibonacci, moving averages, trendlines, etc. What timeframe should I trade? Price action can vary in different timeframes. In longer term timeframes the price action and fundamentals are much more clear. Unfortunately it would take a very long time to figure out whether or not what you’re doing is successful on longer timeframes. In shorter timeframes you can often tell very quickly if what you’re doing is profitable. Unfortunately there’s a lot more “noise” on these levels which can prove deceptive for those trying to learn. Therefore the best bet is to use a multi-timeframe analysis, working from top-down to come up with trades. Should I trade using fundamental analysis (FA) of technical analysis (TA)? This is a long standing argument in these forums and elsewhere. I’ll settle it here - you should have an understanding of both. Yes there are traders who blindly ignore one of the other but a truly well rounded trader should understand and implement both into the analysis. The market is driven in the longer term through FA. But TA is necessary to give traders a place to enter and exit trades from a psychological risk/reward standpoint. I’ve heard trading Binary Options is an easy way to make money? The general advice is to stay away from binaries. The structure of binary options is so that when you lose the broker wins. This incentive has created a very scammy industry where there are few legitimate binary options brokers. In addition in order to be profitable in binaries you have to win 55-65% of the time. That’s a much higher premium over spot FX. Am I actually exchanging currencies? Yes and no. Your broker handles spot FX is currency pairs. Although they make an exchange at the settlement date they treat your position in your account as a virtual currency pair. Think of it like a contract where you can only buy or sell it as a pair. In this sense you are always long one currency while short another. You are merely speculating that one currency will appreciate or depreciate vs another. Why didn't my order fill? Even if price appears to cross over a line on your chart it does not guarantee a fill. Different charting platforms chart different prices - some chart the bid price, some the ask price and some the midpoint price. To fill a limit order price needs to cross your limit's price plus the spread at the time that it is crossing. If it does not equal or exceed the spread then it will not fill. Be wary that in general spreads are not fixed. So what may fill at one time may not at another.
Binary option trading is a relatively new development in the retail trading world. Five years ago, no one had even heard of it. Since 2012 however, the popularity of binary options surged as a result of aggressive marketing by binary option brokers, and the promotion of binary trading software by the trading "gurus". Right now, interest on the topic continues to grow at record levels. Given its current popularity, binary options are likely to be the first "asset" that beginners start trading with. However, just because something is new and popular... doesn't mean it's worth doing. (Who remembers the fuss over bitcoin trading?) Opportunities come and go all the time in the retail trading space... and it's important for us to tell the difference between sustainable business models and short-lived fads. So let's take a moment to examine binary options, and see if it's something we should be paying attention to. But before we do that, let's first take a quick look at traditional (i.e. vanilla) option contracts. VANILLA FOREX OPTIONS Traditional option contracts were initially introduced for people to hedge against future uncertainty. For example, a German company selling cars in the United States would worry about high EUUSD exchange rates in the future. Why? Because then they would be getting revenue in a weaker currency (USD) while having to pay expenses in a stronger currency (Euro) in their home country. This results in a significantly lower net profit, or even worse, a net loss. Forex option contracts were thus introduced to solve this problem, as any losses stemming from currency fluctuations could be offset by profits made from buying options contracts. To continue with the example, the German car company may choose to buy EUUSD call options, which would profit from an increasing EUUSD rate. Thus, any operational losses in the future (due to a high EUUSD rate) can be offset by the profits gained from those option contracts. This is, and continues to be, the main purpose of Forex option contracts. Now of course, in order for the German company to buy call options, someone has to be willing to sell it to them. Perhaps, a financial institution in France does not believe that the EUUSD will continue to strengthen over the next 12 months, and so is willing sell call options to the German company. (This, by the way, is how financial markets work. Participants have varying views of the future, and so trade against each other in line with their own expectations.) In this transaction, the German company pays a fee (in buying call options) to protect against future currency risk, while the financial institution gets paid to take on that risk. To summarize:
- The German car company looks to limit future currency risk by buying call options - The financial institution (or speculator) collects a fee from selling call options and assumes the currency risk
- Option buyers pay a fixed fee for the potential of a very large profit - Option sellers collect a fixed fee for the potential of a very large loss
FOREX BINARY OPTIONS In a vanilla option trade, the buyer does not know in advance the amount of money he stands to win. Similarly, the seller does not know in advance the amount of money he stands to lose. The amount is ultimately determined by how far the market price moves. In a binary option trade however, the trader will know in advance the exact amount he stands to win or lose, before taking the trade. Binary options are named as such because there are exactly only two possible outcomes: you either win a fixed amount, or lose a fixed amount. Binary options ask a simple question: will the price be above [price level] at [time]? For example: will the EUUSD be above 1.3000 at 4.30pm? If you think so, you buy the binary option. If you don't, you sell. That's pretty much all there is to binary options. UPSIDE OF BINARY OPTIONS As you can see, binary option trading can be simply explained and is easily understood. This is a big benefit to new traders, as they can quickly learn the basic mechanics and start trading right away. A related benefit of this, is having to make fewer trading decisions. In spot forex trading, for example, one has to decide:
- Where and when to enter the market - The appropriate trading lot size to use - How to manage the trade - Where and when to close the trade
In binary option trading however, there are only 2 decisions to make:
- Whether the market price will be above a certain price level at a certain time - How much to risk on the trade
As such, binary options offer a much simpler trading process. You don’t have to think about (or calculate) leverage and margin at all. And, since the potential loss on each trade is fixed, you will never get a margin call. Lastly, options offer traders the unique ability to make money by predicting where prices will NOT go. (This goes for all types of options, not just binary options.) This can’t be done in the spot Forex market. So… does binary option trading sound good? Sure it does! Well... at first glance, anyway. Now let’s take a look at the downsides of binary option trading. These are the things your binary option broker won’t tell you. DOWNSIDE OF BINARY OPTIONS TRADING The most obvious downside of binary option trading is the lack of flexibility. For example, if the market price moves even one pip against you upon option expiry, you’ll lose your entire stake. You can’t choose to defer your trade exit under any circumstances. Also, with some binary option brokers, you can’t change your mind and close or modify a trade before expiry. In this sense, a binary option trade is typically an all-or-nothing proposition. These points on inflexibility can be summarized by the following comment (found in the Forex Factory forums): "I once traded a forex news item where I closed a wrong call with a 20 pips loss, and ended up making 350 pips on the reverse trade, giving me a net profit of 330 pips. This scenario cannot be replicated in binary options.” Lastly, the value of a binary option is fixed between 0 and 100, with the broker charging a bid-ask spread and often, a commission as well. The implication of these factors is that the average loss per trade will always be larger than the average profit. This is a structural (i.e. inherent) characteristic of the binary option game. Thus, in order to break even, a binary option trader would have to win at least 55% of the time. Compare this to spot Forex trading, where a trader can be profitable by winning just 40% (or less) of the time. MY PERSONAL OPINION On paper, binary options are an opportunity seeker’s wet dream. The promise of regular fixed payouts and a focus on short-term profits are exactly the characteristics that appeal to people looking for a quick buck. Unfortunately for them, what feels good in trading is typically a losing approach. You see... the only way to keep making money with binary options is to accurately predict market prices at least 55% of the time, AND get the timing right. This is an exceptionally difficult feat to accomplish. In other words, you can correctly predict future market prices AND STILL LOSE because you got the timing wrong by a few minutes. HOWEVER All this said, there may be a genuine opportunity here… and that is to be a seller of binary options. Why? Because it’s a lot easier to estimate where prices will 'not go', rather than trying to predict where it will. Whenever the market settles at a particular price level, it is not settling at a dozen other price levels. Does this make sense? This root concept may then be expanded to form a complete binary option trading strategy that you can use. Note however, that this is a benefit available to all types of options, not just binary options. SO, ARE BINARY OPTIONS JUST A FAD? One reservation I have about binary options is that they do not serve a major commercial purpose. Unlike the spot and derivatives markets that serve to benefit society, binary options exist solely for speculation purposes. In other words, it can be reasonably argued that binary option trading is not much different than a casino game. Without a commercial purpose, binary options could be banned tomorrow and not impact anyone else other than the brokers and speculators. Compare this to spot Forex trading, or Forex futures trading, upon which global commerce relies. These markets are unlikely to be closed or banned, because they serve a useful purpose beyond speculation. As a retail trader for the past 10 years, I’ve seen all sorts of gimmicks and fads come and go. Some years ago, expert advisors were the hot topic. Slowly but surely, people are now gradually realizing that "automated trading" isn't as amazing as it's cracked up to be. Will binary options follow suit? My opinion is yes, I think they will. Binary options do not provide any major benefit to serious traders, and I think that once the opportunity seekers get bored or lose enough money, they’ll lose interest and turn their attention to the next shiny object. WHAT DO YOU THINK? So... do you particularly agree or disagree with any of the points I’ve mentioned? Did I miss mentioning any important points? Let me know what you think! The original article is published here
In the exciting and profitable world of Forex trading , numerous opportunities are present. Spot market is one such important forex market, where the transactions are settled immediately. It is crucial to understand the risks involved and the implications of margin trading before venturing. There are many pitfalls but huge opportunities are also present. Forex trading is unique with good benefits but it is essential to understand how each of the transaction works. It is important to be calm and collected while trading. There are two major techniques or methods of trading in the forex market, first is termed as the Technical analysis method and the second is termed as Fundamental analysis. Technical analysis is all about the price patterns and market behavior. Various indicators are available which help in recognizing patterns. By combining pattern it is possible to predict and trade. Most of the trading software provides indicators along with calculations. It is also important to keep the big picture in mind that is to not only see what will happen but also see what has happened. This can give a lead to a great opportunity. Momentum Analysis is historical analysis showing changes in the forex trading over a certain period of time. Momentum indicators can be used to predict if the currency is overbought or oversold. It is an important type of technical analysis Forex fundamental analysis is the analysis of price in comparison with the economic and political events. It involves usage of economic data, major political decisions along with various social issues that can directly or indirectly affect prices. Usually interest rates and employment rates are the important economic data analyzed as they can majorly affect the market Fundamental trading is effective in forecasting economic conditions but cannot give exact market reading. It is best to understand the fundamental and technical analysis and trade without overthinking it. Trade simple, trade safe! Please click here for trading methods : https://www.intfx.co.uk/technicalanalysis/
JPMorgan Bitcoin Analyst Report Part 2 - Full Text (sorry, no graphs)
Part 1: http://www.reddit.com/Bitcoin/comments/1xmo61/jpmorgan_bitcoin_analyst_report_part_1_full_text/ Part 3: http://www.reddit.com/Bitcoin/comments/1xmoax/jpmorgan_bitcoin_analyst_report_part_3_full_text/ MAKING MONEY THE OLD FASHIONED WAY A discussion of bitcoin should begin with an Economics 101 refresher on money – what it is, how it is created and why we hold it. The classic definition of money is anything that serves as medium of exchange, unit of account and store of value. A medium of exchange can be anything deliverable for a good or service, whether a mundane object, a precious metal or piece of paper. In allcases, users value the medium because employing it is more efficient than bartering. A unit of account is a way of measuring value from a common reference point, thus also facilitating commerce because goods can be compared more easily. (Recall the euro’s usefulness in this regard since now prices in Europe are comparable across 18 countries.) A store of value is just a way of holding wealth until it is exchanged for goods and services or lent or given to someone else. For centuries precious metals, or paper currencies convertible into metal at a fixed rate, served these three functions. But followers of financial history know the limitation of a system based on a fixed or slow-growing money supply: it imposes uncomfortable financial discipline on governments, households and corporates. Hence the progressive debasement of pure gold coins with alloys; the global abandonment of the gold standard during the financial strains during World War I; and the US government’s suspension of the dollar’s gold convertibility given fiscal and balance of payments pressure from the Vietnam War. Today most countries employ fiat currencies, or paper and coins with no intrinsic worth whose perceived value stems from government declaration (or fiat) collective belief. The government creates demand for a currency by declaring it legal tender, meaning it must be accepted as payment for all debts and it will be used in any transactions between the government and other agents. Consumers and corporates accept this fiat currency because it is a requirement for settling all debts public (paying taxes) and private. The government attempts to guard the value of money by maintaining a monopoly on its production to avoid counterfeiting, and by establishing a central bank with a mandate to manage its supply responsibly over time. While this system may sound like blithe existence in The Matrix, this relationship amongst government, central bank, households, corporates and fiat currencies is much more efficient than an alternative like barter. It also makes macroeconomic shocks much easier to manage than an alternative like the gold standard (recall the deflation of the Great Depression and more recently peripheral Europe). BITCOIN AS BETTER MONEY Bitcoin proposes an alternative, however. If – despite their mandates – the world's biggest central banks risk inflation and currency debasement via the rapid expansion of their balance sheets, and if even European governments still impose capital controls (Cyprus), couldn’t a non-state entity more responsibly supply a fiat-like currency to the world? And if this currency were created and exchanged digitally amongst peers of consumers and corporates, it would have the additional advantage of avoiding the fees imposed by financial intermediaries as well as the loss of privacy inherent in third-party payments systems. Hence the purported appeal of a virtual currency: a medium of exchange, a unit of account and a store of value without the alleged recklessness, capriciousness, siphoning and snooping inherent in traditional systems. Even leaving aside this caricature of bitcoin's underlying philosophy, there is something compelling about the idea. Simple in theory, but more complex in practice. Consider the infrastructure of a traditional monetary and payments system to highlight what bitcoin attempts to replace. A traditional financial system is a national network comprising a central bank owned by a government, which creates money by physically printing currency and minting coins, or by electronically creating bank reservess. That money is used by households, consumers and the government to facilitate trade and investment via a payments system of banks and other financial intermediaries (think PayPal, Visa, Western Union and in some countries, the post office). Financial intermediaries provide numerous services of varying complexity, but their role in the payments system is simple: verify that Customer A has sufficient funds to pay Customer B, then securely transfer ownership of that money between accounts. For assuming that verification and transfer risk, intermediaries levy a fee. Bitcoin performs these functions of money creation, payment verification and fund transfer quite differently. Its network is international and comprises miners who create the currency and users who obtain the currency to buy goods and services. There is no central monetary authority or regulator. There is also no financial intermediary for exchanging bitcoins for real products. The closest to an intermediary is an exchanger who will swap bitcoins for traditional fiat currencies like dollars, euros, yen or renminbi, like a forex dealer or futures exchange.7 Miners create bitcoins electronically by solving a mathematical algorithm released in 2009 by an unidentified programmer (or perhaps group of programmers) known by the pseudonym Satoshi Nakamoto. Anyone can be a miner; they simply need to download the software required to interact with others on the network, and acquire hardware powerful enough to run the multitudinous calculations to solve the algorithm. Since the technology required to solve an increasingly complex algorithm grows over time, miners will probably be programming specialists rather than the average consumer or businessperson. Any individual or business can be a bitcoin user, however, by establishing an electronic account know as a wallet. This wallet is associated with a user's electronic address but not to any other identifying information such as their name, phone number or physical address. Thus bitcoin is a pseudonymous system rather than an anonymous one in that every user is known by something other than the legal names associated with traditional banking. To provide security as well as transact with other users, bitcoin employs cryptography which assigns two keys (alphanumeric codes) to each account – a private one known only to them and a public one known to all other users in the network. When two users wish to transact, they send a message to the network using their public keys signed by their private keys. This transaction forms part of a block chain or bundle of transactions entirely in the public domain along with all other historical bitcoin transactions performed in the network. Miners compete to verify that this trade is authentic via algorithms to confirm that indeed a user possesses the bitcoin and did not previously spend it. Programmers (miners) who solve the equations to authenticate a block of transactions receive 25 bitcoins increasing the money supply. Whenever the algorithm is solved, it becomes computationally more difficult so that the next attempt requires more time an effort (i.e. computing power). This feedback mechanism limits the growth rate of bitcoin supply, so is somewhat analogous to the production constraint on gold. The more that is mined, the greater the requirement to dig deeper pits, the greater effort required to extract the marginal ounce and the higher the price of the marginal ounce (or coin). The stock of bitcoins is arbitrarily set at 21 million units to be mined by 2140, 12 million of which have already been mined. At early-February market prices of about $700 per unit, the current bitcoin money supply has a value of about $8.5bn, equivalent to the market capitalisation of the Mauritius Stock Exchange. As complicated as this process is, it begins to address several acknowledged deficiencies of fiat currencies. It provides steady, predictable growth in the money supply. It eliminates the risk of capital controls because the network lacks a central authority. It provides verification of fund balances to avoid fraud. And it eliminates or at least significantly reduces transaction costs for payments because verifiers are rewarded through bitcoin creation. As fanciful – and indeed Matrix-like – as this bitcoin creation system sounds, perhaps it requires no more suspended disbelief than the traditional fiat system in which a government declares paper to have value and a central bank or national mint thus issues the specie. One doesn’t need to be the caricatured miscreant, Austrian economist or anarchist to appreciate the appeal of such a system.
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