How to Make Money on Currency Trading by Borrowing from Brokers
One of the good things about currency trading is that you can use leverage by borrowing from brokers as much as one thousand times your seed money. Yet, borrowing money to trade currency is not different from borrowing for other financial purposes. You must pay interest on the money you borrow.
However, as Forex trading simultaneously involves buying and selling, the interest on your loan can be offset by the interest earned on the currency you buy. Let us take a look at interest rates in general to see how it affects the currency market.
At central banks, interest rates are set according to a country’s monetary policy—high interest rates make the currency more expensive and lower interest rates make it cheaper to buy. Imagining the government of a country with high inflation will help you get the picture of how interest rates are used.
Rapidly rising prices may force the government to increase interest rates. This would raise the cost of the country’s currency as well, and make demand and consumption drop, as borrowing would be more costly. This will consequently cause prices and inflation rates to fall.
Similarly, a country going through recession might decrease interest rates to push the country’s economy up, as lower price of currency would boost demand and eventually increase supply.
Interest rates set by central banks also determine at what rate commercial banks can borrow from governments and lend to their customers including Forex traders. This will tell you how interest rates affect the trade.
A trader who is buying GBP/USD needs to borrow the USD to buy the GBP and therefore will pay interest on the Dollars and earn it on the Pounds. If the interest rate the Bank of England sets for the UK Pound is higher than the one set by the Federal Reserve for the US Dollar, the trader will be earning more on the British Pounds he bought than he is paying on the US Dollars he borrowed, thus making a profit.
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February 21, 2010 1:52 pm
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