All trades made in the forex market are made in pairs. In other words, one currency is always quoted against another currency, for example the U.S. Dollar against the Japanese yen or the U.S. Dollar against the euro. When a trader buys the dollar against the yen, he or she is hoping or speculating that the dollar will increase in value, while the Yen will decrease. Conversely, when the trader sells the U.S. Dollar against the Japanese yen, he is speculating that the dollar will decrease in value while the yen increases in value. If he buys the dollar-yen, but the yen increases in value, the trader will lose money, since he now owns dollars which have decreased in value compared with the yen.



A trader can minimize his or her losses by predefining where to exit a position, should the trade not work out as intended. The trader can leave an order in the market with his or her broker, and the order will be automatically executed if the parameters are met. Hence, a trader can decide how much of a loss to sustain before exiting the position. This type of order is known as a stop loss order, and it is considered the most popular risk management tool. Traders who do not leave stop loss orders in the market can sustain large losses if their position moves in the wrong direction, especially if it is a leveraged position. In some cases an account can be so leveraged that an adverse move can cause the trader's account to fall into the negative. (For more, see Place Forex Orders Properly.)

This question was answered by Selwyn Gishen.





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