Despite some of the controversial practices of the Federal Reserve, the entire world always needs dollars. The US dollar has remained the most traded currency in forex for several decades, and not much evidence suggests this will dissipate.
Yet, notwithstanding America’s dominance in foreign exchange, there still seems to be some confusion on whether its citizens can participate in this massive market. It’s an understandable question, partly because the US emphasizes stock and indices trading over instruments like forex.
The short answer is yes; Americans can certainly trade forex and enjoy the benefits like the rest of the world. The process of becoming a currency trader isn’t so different from those in other countries.
However, one of the main distinctions with US forex trading is knowing the different regulations given to brokers and other client-facing restrictions.
Mastering the forex market
Whether you live in the US or elsewhere, traders expose themselves to the same online trading environment. Hence, the purpose of forex is to exchange one foreign currency for another; this is what traders are doing at any given time.
When going long (buying), you make a profit if a pair’s price moves in a positive direction some distance from the point at which you bought. Conversely, when you go short (selling), the price needs to move in a downward direction some distance from your entry point to realize a profit.
Numerous drivers affect the value of one currency when paired with a different one, and this is where having exceptional analytical skills is crucial. We have two broad strands of analysis, technical and fundamental.
Technical looks at repeatable price structures and patterns, while fundamental is about the underlying economic factors affecting the supply and demand of currencies.
Traders will typically use both approaches in conjunction or stick with one depending on their inherent trading style, namely scalping, day trading, swing trading, position trading, and news trading.
There are hundreds of currency pairs, though most traders stick with 28; combinations of AUD, CAD, CHF, EUR, GBP, JPY, NZD, and USD. These markets are massively liquid, trade 24/5, have reasonable spreads, and present speculators with plenty of action in most active trading sessions.
Overall, there is a mammoth of information to process and implement as a forex trader, making the journey akin to attending a three-year degree course at a university.
While not a typical nine-to-five job, forex trading is a career requiring years of experience and skill to realize success.
Understanding forex regulations in the US
One of the key components in trading forex in the US is understanding how regulations within this market work. Regulatory oversight in the United States is quite tight, to say the least.
It’s a colossal challenge for brokers to operate in the country. Since the end of the 2008 global financial crisis, the American government has become more cautious and fostered a safer economic environment for its residents.
The Dodd-Frank Wall Street Reform and Consumer Protection Act, published in 2010, came with purposefully implementing a high barrier to entry for brokers through expensive operating licenses for brokerages, severely limited leverage, the banning of hedging, the FIFO (first-in-first-out) rule, and other restrictions.
As a US citizen, one should ensure any broker they choose is regulated by the CFTC (Commodity Futures Trading Commission) and a registered member of the NFA (National Futures Association).
US traders can verify if a broker’s credentials meet these criteria through a special online verification system called BASIC (Background Affiliation Status Information Centre).
Opening an account with a broker
As previously stated, the US is an expensive market for brokers to enter from a regulatory and licensing perspective. Hence, a drastically limited number of US-friendly brokerages are legally allowed to offer their services to American citizens.
Yet, it’s safer for clients rather than using offshore forex brokers with little or no regulatory inspection. Below is a list of well-known brokers a US potential client should consider for forex trading purposes.
- ATC Brokers
- Interactive Brokers
- Nadex (for forex options)
- TD Ameritrade
Of course, the minimum deposit to open an account will vary depending on the broker but can start from zero (as with OANDA) to $500 or more. Here are some other important considerations when trading forex in the USA.
- The maximum leverage is 1:20 for minor pairs (i.e., those not paired with USD) and 1:50 for major pairs (i.e., all currencies paired with USD). Restricted leverage means you need to be more capitalized as you can only ‘borrow’ a limited amount to open bigger positions due to the decreased margin.
Yet, on the other side, a lower margin generally protects the investor because it’s harder to over-leverage your account.
- US traders cannot hedge their positions, as in open buy and sell orders on the same pair at the same market. Hedging was banned in 2009, and, in the same year, the ‘FIFO rule’ was introduced.
First-in, first-out means the positions you’ve opened first are closed where you have several of them on the same pair and same position size. Research suggests that, over time, the trading software performs this adjustment automatically on a trader’s behalf.
- Tax-wise, the IRS (Internal Revenue Service) defines two sections as avenues for taxing their citizens, Section 988 and Section 1256. The latter is the common, easier-to-understand method.
This uses a 60/40 ratio where 60% of the total capital gains is taxed at 15%, while the rest is taxed depending on your income tax bracket. As in most countries, US forex traders should file their taxes annually.
The economic influence of the United States is undisputed. Technically, the foreign exchange began in this country with the ending of the gold standard in 1971. Hence, the US is the originator of this market, partly why their currency is so prominent.
However, If one had any doubts or confusion on the ability for US citizens to trade the world’s most liquid financial market, this article will hopefully have cleared those up.
Overall, despite being highly risky, forex provides some unique advantages over instruments that Americans have traditionally favored for heritage reasons like stocks and commodities.