Mental Stops or Automatic Stops?

Mental stops call for greater maturity and finesse than automatic stops. Mental stops in the wrong hands is a very dangerous weapon. For instance, some currency pairs can sprint 200-300 pips in the blink of an eye, and an inexperienced trader who tries to replicate such a method without the required mindset and/or experience will very quickly learn some extremely harsh lessons.

To summarize, while it's important to see stops as a measure of risk control, it's different than controlling the risk by sizing the position or even managing an open position. Many people believe that knowing where to place protective stops constitutes money management, perhaps because of lack of information or unwillingness to delve into issues related to managing risk.

Although stops are an indispensable tool to protect our capital, the placement of stops is just a part of risk management. If a trader applies, for example, a stop loss of 200 pips on each of his positions he is pursuing a strategy that is absolutely not related to his total available capital or equity: you can not categorize that measure as money management.

What Is a Mental Stop Loss?

Normally when you set a stop loss you place it on your platform where your broker can see it. A mental stop loss is a stop loss, that you do not actually set on your platform to automatically close your trade.

Imagine you enter long on GBP/JPY at the 145.00 level. The way I trade, the maximum amount of pips you want to risk is 50. You can either set a stop loss that automatically closes you out at 144.50 or you could use a mental stop loss. However, with a mental stop you have to be there to monitor the trade because instead of setting an actual stop on the platform you will set an alarm to ring where you have set you mental stop loss. When your alarm rings you go back to the computer and monitor the trade closely so you can decide whether or not closing out is a good idea.

Setting a Mental Stop

There are a few things you have to do.

1. Figure out what you plan to risk on the trade

2. If you’re not going to be monitoring closely set a price alarm about 10 pips before your max risk level.

That is pretty much it. You want the price alarm to ring a little before the level is reached. If it’s moving down fast you do not want it to fly right past your max risk level. Obviously, the amount of pips between your max risk level and your price alarm is dependent on your situation. If you’re going to be in bed you would likely need more warning. If instead you’re going to be surfing YouTube you need less of a warning.

If you are going to be watching your trade like a hawk the alarm is obviously not needed.

Are Mental Stops for you?

I think mental stops can give intermediate and advanced traders an advantage in their trading. Using mental stops allows you to better manage your trades. Inevitably, there are times the price will move against your trade. However, everything clearly indicates that it is a temporary set back and you know it will likely move back in your direction. At times like this, if you have a set stop loss you will be taken out automatically. If you’re using a mental stop loss you can stay in the trade and allow it to move back in your direction. Of course, this could also work against you as I will discuss next.

If you’re a newbie trader, mental stop losses could be a hindrance. I think you need to be at a certain level before you begin using mental stop losses. You need to be able to properly read the market. If you cannot read the price action, and anticipate what will happen next, you are better off with solid stop losses. However, there is something you can do to expedite the learning process so you can begin benefiting from mental stops too. I will discuss that a little later though.

 Benefits of Mental Stops

Mental stop losses allow you to think before the trade is closed. I have always maintained that the more a trader uses their brain in their trading the better off they will be. On the other hand, the more they rely on their computer to do their work for them the worse off they’ll be. Computers (at least your standard PC or laptop) do not have the ability to read price action and weigh risks. When you give a computer a task it carries it out blindly and without question.

When you set an auto stop, your computer will close you out if the stop is reached. It will not look at price action and consider keeping the trade open because it anticipates the drawdown to be temporary. You, however, can take several factors into consideration and decide to keep the trade open. In the long run, this can save you a lot of pips.

So using mental stops can:

1. Save you from being stopped out of a good trade

2. Protect against stop hunting. Yes some brokers do stop hunt but if your stoploss is mental they cannot hunt it.

3. Allows you to properly think through whether or not it’s time to exit a trade.

At times I will have a trade break a S+R line, and then move against me. For example, a new report can be released that pushes the price against me temporarily. On some of these trades, I can tell by looking at price action that it will likely head back in my direction. If my stop loss is mental I have time to analyse the market and decide whether or not keeping the position open is viable.

 Drawbacks of Mental Stops

The drawbacks of mental stop losses are obvious. There will be times when you will lose more than your max risk on the trade. Your mental stop loss could be hit and you may decide to stay in as you believe it is only temporary drawdown. However, the price can keep moving against you. I consider myself an advanced trader and this still happens to me. It cannot be avoided but overall mental stops save me more pips than they cost me.

This is why I suggest only intermediate to advanced traders use mental stop losses. You have to be able to:

1. Handle losses: If you cannot handle losing you may just stay in as it moves further and further against you. You have to have the psychological experience to be able to cut a bad trade lose.

2. Read price action: If you cannot read price action yet you should not use mental stop losses. The ability to read price action is essential to using mental stops. The concept of mental stops is based entirely on the trader’s ability to judge whether or not the drawdown is temporary.

If you’re a newbie please steer clear of mental stops. Set auto stops until you learn to handle losses and read price action. Being able to read price action is something that grows with experience so just be patient and keep trading.

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Introduction to Pivot Points

Pivot Points, one of the basic and most important technical tools and the important one, is in the was used long before the era of computerized trading. The mathematical calculation of various support and resistance levels, based on the high, the low and the closing prices of the previous period, was initially used by floor traders in order to trade efficiently. The indicator was strong enough to be considered for included in technical analysis, resulting it to be and as a result you can find it present in the majority of trading platform. The basic use purpose of Pivot Points (PP) is to determine the important support and resistance levels. It is also used to determine market sentiment: as during the trending market,when the market is trending prices would will fluctuate from support PP to resistance PP, while in times of whereas when the market is directionless or ranging market, prices usually fluctuate around two PPs until a breakout happens. If prices are trading above the pivot point it is considered to carry bullish sentiment, while trading below the pivot point usually suggests indicates bearish sentiment. Moreover, Pivot Points are also an important technical tool for placing trade orders.

Calculation

Although there are several methods for calculating Pivot Points, the most common of them is the Standard Pivot Point system. It uses the simple arithmetic average of the high, the low and the closing prices of the previous trading period in order to determine the Pivot Point, i.e. the very base for calculating various support (S) and resistance (R) levels. Daily PPs are usually calculated based on the New York closing time, i.e. 16.00 EST (22.00 CEST).

Pivot point (PP) = (High + Low + Close) / 3

First resistance (R1) = (2 x PP) – Low

First support (S1) = (2 x PP) - High

Second level of support and resistance:

Second resistance (R2) = PP + (High - Low)

Second support (S2) = PP - (High - Low)

Third level of support and resistance:

Third resistance (R3) = High + 2(PP - Low)

Third support (S3) = Low - 2(High - PP)

Types of Pivot Points

This mathematical calculation applies only to Standard PPs.. With the invention of computerized trading a lot of other PPs have been developed to assist traders:

Standard PP indicators: The very basic Pivot Point calculation starts with the Standard PP Indicators that are identical to the ones described above. These Pivot Points are the corner stone for the rest of the PP calculations. Even though the Standard PP is very helpful, it still has its own limitations as it is a mathematical calculation that sometimes misses the important support and resistance levels. In the example below, we can see six potential Standard PPs plotted on a EURUSD H1 chart.

Fibonacci PPs: Fibonacci Pivot Points are an extension of the standard PPs where Fibonacci multiples of the high-low differential are considered to form various support (S) and resistance (R) levels. You can calculate the Fibonacci PPs in the following way:

Pivot Point (PP) = (High + Low + Close)/3

Support 1 (S1) = P - {.382 * (High - Low)

Support 2 (S2) = P - {.618 * (High - Low)

Support 3 (S3) = P - {1 * (High - Low)

Resistance 1 (R1) = P + {.382 * (High - Low)

Resistance 2 (R2) = P + {.618 * (High - Low)

Resistance 3 (R3) = P + {1 * (High - Low)

In the example below, we can see six potential Fibonacci PPs plotted on a EURUSD H1 chart. Even though the Fibonacci levels are blend with Pivot Points, these Fibonacci PPs are unable to mark all the important support and resistance levels.

Hourly PP: These pivot levels are accurate enough for smaller time frames and can help traders capitalize on the little movements of the pair. Hence, Hourly Pivot Points are mainly used for Scalping. The Basic Calculations are as simple as the standard time frame but in this case the high, the low and the closing prices of the previous hour are considered in plotting various support and resistance points. In the example below, we can see six potential Hourly PPs plotted on a EURUSD M15 chart. We can see that major supports and resistances took place near the Hourly PPs, which proves the importance of this indicator. Due to the perfection in smaller timeframes, these PPs become less helpful while plotting on higher time frames (Daily, Weekly, Monthly, etc).

WOODIE Pivot Point: While all the mentioned PPs consider only the high, the low and the closing prices for calculation, Woodie Pivot Points consider all the four indicators for movement: open, high, low and closing prices. High and low prices usually show the extreme moods of traders and hence fail to mark the important levels. Open and closing prices are considered to represent traders’ intentions more accurately, which makes Woodie Pivot Point popular among traders. The following EURUSD M15 chart describes major support and resistance levels covered by the Woodie PP. Despite all the advantages, the simplicity of the Woodie PP makes it less famous than, for example, Camarilla or Murray Math PP. In addition to that the Woodie PP doesn’t propose any strategy as other advanced PP do, which also makes it less useful for big banks and professional traders. 

Murrey Math PP: One more technical indicator based on the Pivot Point is Murrey Math. It tackles with a lot of limitations of Standard, Hourly and Fibonacci PPs. and is widely used by professional traders and big banks. The indicator is divided into eight lines that mark multiple support and resistance levels. It also mentions the major reversing point (Line 4/4) and the Ultimate Support and Ultimate Resistance lines (line 0/8 and line 8/8 respectively). As you can notice on a EURUSD M15 chart below, the major support and resistance levels are covered by the Murrey Math PP. The indicator divides the chart in nine equidistant lines, from the bottom are at the levels 0/8, 1/8, 2/8, 3/8, 4/8, 5/8, 6/8, 7/8 and 8/8. The mentioned PP lines can indicate when to go long/short as well as important stop-loss and take profit points.

Camarilla: Camarilla is one more advanced PP indicator which helps traders in Scalping and Day trading. It is also one of the renowned technical indicators for professional traders at big financial institutions and banks. It is a price-based indicator for defining the trading levels. Each point calls for specific actions and hence becomes different from the rest of the PPs. The mentioned PP lines can indicate when to go long/short as well as where important stop-loss and take profit points are. You can calculate various levels with Camilla Technical Indicator in the following way:

H5 = (High/Low) × Close

H4 = Close + RANGE × 1.1/2

H3 = Close + RANGE × 1.1/4

L3 = Close – RANGE × 1.1/4

L4 = Close – RANGE × 1.1/2

L5 = Close – (H5 – Close)

The following H1 EURUSD chart describes how Camarilla marked the important support and resistance levels together proposing important trading strategies.

How to Use Fibonacci Expansions

A concept I always teach is the importance of using support and resistance levels to decide when to get out of positions. Just like getting a good entry is important for a successful trade, you must also ensure you are exiting your trades at levels that maximize your gains. This article aims to assist traders in finding profit maximizing exit levels using Fibonacci Expansions.

What are Fibonacci Expansions?

Fibonacci Expansions are price levels created by tracking a price’s primary move and its retracement. The resulting price levels are then drawn on the chart in an area that would normally be difficult to gauge support and resistance using ordinary charting tools. This makes Fibonacci Expansion especially useful for picking profit targets when trading trends.

When faced with an upward trending currency pair, there are going to be times when price temporarily moves counter to the trend. We call these moves pullbacks or retracements. Once this counter move is exhausted, price resumes back in the direction of the primary trend and often times will break to new highs. It is at that moment, that Fibonacci can be used.

While the familiar Fibonacci Retracements are used to determine how far the price might originally retrace, Fibonacci Expansions can help us determine where price might head after the retracement is exhausted. On the EUR/USD daily chart below, I have highlighted a primary move followed by a retracement move.

Learn Forex: Simple Moving Average Crossover (With Trend Filter)

Now that the Fibonacci Expansion has been selected, we will need to select three price points to setup the tool properly. We will click a total of 3 times on the chart at the following price levels, in the following order.

1.    The beginning of the primary move, the low.

2.    The end of the primary move, the high.

3.    The retracement, the swing low.

After clicking OK, we should see several horizontal lines projected on the chart.

Learn Forex: Drawing and Reading the Fibonacci Expansion

How Do You Interpret Fibonacci Expansions?

This particular example on the EUR/USD daily chart is utilizing the more popular 0.618, 1.000 and 1.618 expansions. (There are also optional expansions at the 2.618 and 4.236 levels that you could add). All these lines can be considered resistance levels as the price trends higher, making them perfect areas to place profit targets.

We can see that price quickly hit the 1st profit target before consolidating, and then later broke upwards towards the 2nd profit target before retracing lower. It hit each of these prices on the nose before price regrouped for its next move. This gave us some spectacular exits for a long trade. If we remained a EUR/USD bull, our next target would be right below 1.4250 (at the 1.618 Fibonacci Expansion).

Scaling out of a trade with multiple targets is an effective money management strategy allowing you to lock in profits as the position matures. Just like diversifying your portfolio can help smooth out your overall returns, having multiple profit targets smooth out your returns on a trade by trade basis.

Finishing With Fibonacci

Once you add Fibonacci Expansions on a few of your charts, it becomes second nature to project these support/resistance lines for all your trend trades to assist with your profit targets. It also accompanies the Fibonacci Retracement tool nicely since the Fibonacci Retracement is traditionally used to get good entries on pullbacks from an existing trend.

How to use Fibonacci Retracements

The Fibonacci retracements pattern can be useful for swing traders to identify reversals on a stock chart. On this page we will look at the Fibonacci sequence and show some examples of how you can identify this pattern.

Fibonacci numbers were developed by Leonardo Fibonacci and it is simply a series of numbers that when you add the previous two numbers you come up with the next number in the sequence. Here is an example:

1, 2, 3, 5, 8, 13, 21, 34, 55

See how when you add 1 and 2 you get 3? Now add 2 and 3 and you get 5, and so on. So how does this sequence help you as a swing trader?

Well, the relationship between these numbers is what gives us the common Fibonacci retracements pattern in technical analysis.

Fibonacci retracements pattern

Stocks will often pull back or retrace a percentage of the previous move before reversing. These Fibonacci retracements often occur at three levels: 38.2%, 50%, and 61.8%. Actually, the 50% level really does not have anything to do with Fibonacci, but traders use this level because of the tendency of stocks to reverse after retracing half of the previous move. Here is an example using a graphic explaining the retracement pattern:

This picture shows a graphical representation of the reversal points for stocks in an uptrend. The pattern is reversed for stocks that are in down trends.

After a stock makes a move to the upside (A), it can then retrace a part of that move (B), before moving on again in the desired direction (C). These retracements or pullbacks are what you as a swing trader want to watch for when initiating long or short positions.

Once the stock begins to pull back (retrace), then you can plot these retracement levels on a chart to look for signs of a reversal. You do not automatically buy the stock just because it is at a common retracement level! Wait, and look for candlestick patterns to develop at the 38.2% area. If you do not see any signs of a reversal, then it may go down to the 50% area. Look for a reversal there. You do not know if or when the stock will reverse at a Fibonacci level! You just mark these areas on a chart and wait for signal to go long or short.

How to draw a fib grid

So how do we identify Fibonacci patterns on a chart. Easy, we draw a Fibonacci grid (fib grid) using swing points. Here is an example:

Draw the fib grid from the swing point high and the swing point low of a swing. Your charting software should come with this feature. It is a standard option on most charting packages. If not, you can calculate it manually by using this formula:

Calculate the range from the swing point high to the swing point low.

Now multiply the range times a Fibonacci ratio: 38.2% (0.382), 50% (0.500), and 61.8% (0.618).

Finally, subtract that number from the swing point high. That will give you your Fibonacci levels.

This chart shows an actual trade that I made. HS pulled back into the TAZ and then formed a bullish engulfing candle right at the 50% level. That gave me the signal to go long. Nice trade!

Is it useful?

Well...maybe...sometimes...

Most of the time, when you draw a fib grid on a chart, you will notice that the grid lines up with support and resistance areas that you would see anyway without drawing the lines in! So you really do notneed to draw the lines in. Instead, you can just look at a chart and estimate where the levels are.

Look again at the chart above of HS. If you didn't draw the Fibonacci retracement lines in, you can still tell just by looking at the chart that the stock has retraced 50% of the previous move.

If drawing the lines in helps you to better visualize the fib levels, then by all means use it! The choice is up to you.

Forex Risks

The trading of foreign exchange currencies involves risks. The evaluation of the grade or severity of risk should always be taken into account before executing a trade.

The following are the major risk factors in FX trading:

·         Exchange Rate Risk

·         Interest Rate Risk

·         Credit Risk

·         Country Risk

·         Liquidity Risk

·         Marginal or Leverage Risk

·         Transactional Risk

·         Risk of Ruin

Exchange Rate Risk

Exchange rate risk is the risk involved based on the effect of the continuous and usually volatile shift in the worldwide market supply and demand balance on an outstanding foreign exchange position. For the period the trader’s position is outstanding, the position is subject to all price changes. This risk can be quite substantial and is based on the market's perception of which way the currencies will move based on all possible factors that happen (or could happen) at any given time, anywhere in the world. Additionally, because the off-exchange trading of Forex is largely unregulated, no daily price limits are imposed as exist for regulated futures exchanges. The market moves based on fundamental and technical factors - more about this later.

The most popular methodology implemented in trading is cutting losses and riding profitable positions, in order to insure that losses are kept within manageable limits. This common sense methodology includes:

The Position Limit

A "position limitation" is establishing the maximum amount of any currency a trader is allowed to carry, at any single time.

The Loss Limit

The loss limit is a measure designed to avoid unsustainable losses made by traders by means of setting stop loss levels. It is imperative that you have stop loss orders in place.

Simple Risk / Reward Ratios

A simple method traders use as a guideline when trying to control exchange rate risk is to measure their intended gains against their possible losses. The idea is that most traders will lose twice as many times as they profit, so a simple guide to trading is to keep your risk/reward ratio to 1:3. This is illustrated in detail in a later section.

Interest Rate Risk

Interest rate risk refers to the profit and loss generated by fluctuations in the forward spreads, along with forward amount mismatches and maturity gaps among transactions in the foreign exchange book. This risk is pertinent to currency swaps; forward outright, futures, and options. To minimize interest rate risk, one sets limits on the total size of mismatches. A common approach is to separate the mismatches, based on their maturity dates, into up to six months and past six months. All the transactions are entered in computerized systems in order to calculate the positions for all the dates of the delivery, gains and losses. Continuous analysis of the interest rate environment is necessary to forecast any changes that may impact on the outstanding gaps.

Credit Risk

Credit risk refers to the possibility that an outstanding currency position may not be repaid as agreed, due to a voluntary or involuntary action by a counterparty. Credit risk is usually something that is a concern of corporations and banks. For the individual trader (trading on margin), credit risk is very low as this also holds true for companies registered in and regulated by the authorities in G-7 countries. In recent years, the National Futures Association (NFA) and the Commodity Futures Trading Commission (CFTC) have asserted their jurisdiction over the FX markets in the US and continue to crack down on unregistered FX firms. Countries in Western Europe follow the guidelines of the Financial Services Authority in the UK. This authority has the strictest rules of any country in making sure that FX companies under their jurisdiction are keeping qualified customer funds secure. It is important for all individual traders to thoroughly check out companies before sending any funds for trading. It is fairly easy to check out the companies you are considering by visiting the authorities' websites: The CFTC's website is http://www.cftc.gov/, the NFA website is http://www.nfa.futures.org/, and the FSA's website is http://www.fsa.gov.uk/. Most companies are happy to answer inquiries from customers and often post notices pertaining to security of funds on their website. It should be noted, however, that minimum capital requirements for Futures Commission Merchants ("FCMs") registered with the CFTC are much less than those of banks, and under present CFTC regulations and NFA rules, protections related to the segregation of customer funds for regulated futures accounts do not extend fully to funds deposited to collateralize off-exchange currency trading. For these and other reasons, the CFTC and NFA discourage any representation that the registration status of a Futures Commission Merchant substantially reduces the risks inherent in over-the-counter Forex trading.

The known forms of credit risk are:

Replacement Risk

Replacement risk occurs when counter-parties of a failed bank or Forex broker find they are at risk of not receiving their funds from the failed bank.

Settlement Risk

Settlement risk occurs because of the difference of time zones on different continents. Consequently, currencies may be traded at different prices at different times during the trading day. Australian and New Zealand Dollars are credited first, then the Japanese Yen, followed by the European currencies and ending with the US Dollar. Therefore, payment may be made to a party that will declare insolvency or be declared insolvent, prior to that party executing its own payments.

In assessing credit risk, the trader must consider not only the market value of their currency portfolios, but also the potential exposure of these portfolios.

The potential exposure may be determined through probability analysis over the time to maturity of the outstanding position. The computerized systems currently available are very useful in implementing credit risk policies. Credit lines are easily monitored. In addition, the matching systems introduced in foreign exchange since April 1993, are used by traders for credit policy implementation as well. Traders input the total line of credit for a specific counter-party. During the trading session, the line of credit is automatically adjusted. If the line is fully used, the system will prevent the trader from further dealing with that counter-party. After maturity, the credit line reverts to its original level.

Dictatorship Risk

Dictatorship (sovereign) risk refers to a government's interference in the Forex marketplace. Although theoretically present in all foreign exchange instruments - currency futures are, for all practical purposes, exempt from country risk, for the reason that the major currency futures markets are located in the US.

However, traders must account for all types of risk and take the necessary measures to account for possible administrative restrictions that may affect their market positions.

Counter-party Default Risk

Over-the-counter ("OTC") spot and forward contracts in currencies are not traded on exchanges; rather, banks and FCM's typically act as principals in this market. Because performance of spot and forward contracts on currencies is not guaranteed by any exchange or clearing house, the client is subject to counter-party risk -- the risk that the principals with a trader, the trader's bank or FCM, or the counter-parties with which the bank or FCM trades, will be unable or will refuse to perform with respect to such contracts. Furthermore, principals in the spot and forward markets have no obligation to continue to make markets in the spot and forward contracts traded.

In addition, the non-centralized nature of the Foreign Exchange market produces the following complications:

A bank or FCM may decline to execute an order in a currency market which it believes to present a higher than acceptable level of risk to its operations. Because there is no central clearing mechanism to guarantee OTC trades, each bank or FCM must apply its own risk analysis in deciding whether to participate in a particular market where its credit must stand behind each trade. Depending on the policies adopted by each counter-party, a given bank or FCM may decline to execute an order placed by a trader/customer. This has happened on occasion in the past, and will no doubt happen again, in response to volatile market conditions.

Because there is no central marketplace disseminating minute-by-minute time and sales reports, banks and FCMs must rely on their own knowledge of prevailing market prices in agreeing to an execution price. The execution price obtained for a trader/customer to a large extent will reflect the expertise of the bank or FCM in trading the particular currency. While the OTC interbank market as a whole is highly liquid, certain currencies, known as exotics, are less frequently traded by any but the largest dealers. For this reason, a less experienced counter-party may take longer to fill an order or may obtain an execution price that differs widely from what a more experienced or larger counter-party will obtain. As a consequence, two participants trading in the same markets through different counter-parties may achieve markedly different rates of return during times of high market volatility.

The financial failure of counter-parties could result in substantial losses. Again, when trading Foreign Currencies on an OTC basis, the trader/customer will be dealing with institutions as principals and institutions may be subject to losses or insolvency. In case of any such bankruptcy or loss, the trader might recover, even in respect of property specifically traceable to his or her account, only a pro rata share of all property available for distribution to all of the counter-party's customers.

While that portion of a trader/customer's assets deposited with an FCM with respect to regulated exchange traded futures will be subject to the limited regulatory protections afforded by the client segregation rules and procedures, customer funds deposited to secure or margin OTC Foreign Exchange trading will not have such protection, as FCM's are exempt from substantial regulation under the Commodity Exchange Act for their activities as counter-party to non-exchange traded currency contracts.

Country and Liquidity Risk

Although the liquidity of OTC Forex is in general much greater than that of exchange traded currency futures, periods of illiquidity nonetheless have been seen, especially outside of US and European trading hours. Additionally, several nations or groups of nations have in the past imposed trading limits or restrictions on the amount by which the price of certain Foreign Exchange rates may vary during a given time period, the volume which may be traded, or have imposed restrictions or penalties for carrying positions in certain foreign currencies over time. Such limits may prevent trades from being executed during a given trading period. Such restrictions or limits could prevent a trader from promptly liquidating unfavorable positions and, therefore could subject the trader's account to substantial losses. In addition, even in cases where Foreign Exchange prices have not become subject to governmental restrictions, the General Partner may be unable to execute trades at favorable prices if the liquidity of the market is not adequate. It is also possible for a nation or group of nations to restrict the transfer of currencies across national borders, suspend or restrict the exchange or trading of a particular currency, issue entirely new currencies to supplant old ones, order immediate settlement of a particular currency obligations, or order that trading in a particular currency be conducted for liquidation only. OTC Forex is traded on a number of non-US markets, which may be substantially more prone to periods of illiquidity than the United States markets due to a variety of factors.

Additionally, even where stop loss or limit orders are put in place to attempt to limit losses, these orders may not be executable in very illiquid markets, or may be filled at unforeseeably unfavorable price levels where illiquidity or extreme volatility prevent their more favorable execution.

Leverage Risk

Low margin deposits or trade collateral are normally required in Foreign Exchange, (just as with regulated commodity futures). These margin policies permit a high degree of leverage. Accordingly, a relatively small price movement in a contract may result in immediate and substantial losses in excess of the amount invested. For example, if at the time of purchase, 10% of the price of a contract were deposited as margin, a 10% decrease in the price of the contract would, if the contract were then closed out, result in a total loss of the margin deposit before any deduction for brokerage commissions. A decrease of more than 10% would result in a total loss of the margin deposit. Some traders may decide to commit up to 100% of their account assets for margin or collateral for Foreign Exchange trading. Traders should be aware that the aggressive use of leverage will increase losses during periods of unfavorable performance.

Transactional Risk

Errors in the communication, handling and confirmation of a trader's orders (sometimes referred to as "out trades") may result in unforeseen losses. Often, even where an out trade is substantially the fault of the dealing counter-party institution, the trader/customer's recourse may be limited in seeking compensation for resulting losses in the account.

Risk of Ruin

Even where a trader/customer's medium to longer term view of the market may be ultimately correct, the trader may not be able to financially bear short-term unrealized losses, and may close out a position at a loss simply because he or she is unable to meet a margin call or otherwise sustain such positions. Thus, even where a trader's view of the market is correct, and a currency position may ultimately turn around and become profitable had it been held, traders with insufficient capital may experience losses.