What is forex?
- Plutus Legacy Fx
- Jun 4, 2022
- 9 min read
The foreign exchange market, known as ''Forex'' or ''FX'' is the largest financial market in the world. The Forex market is a global, decentralized market where all the currencies in the world exchange. Exchange rates change every second, and the market is constantly in flux. The Forex market is the largest exchange market worldwide, with more than $6.6 Trillion per day in trade volume. Forex, it simply, is the global financial market that allows traders to trade currencies.
Traders try to find which currency will be stronger than another, what will be the changes in the correct exchange rates, and if predictions are accurate, traders make a profit.
If you have travelled to another country with a different currency, you had to change your money to the currency of the country at an exchange money booth in the city or the airport, so you can have the currency of the country you are visiting. The exchange rates for different currencies against the country's currency appear on a screen or a board. An exchange rate is the relative price of two currencies from two countries. That is the foreign exchange (Forex) market. Once your trip ends and you need to change your money again, you will see that the exchange rates have changed. Those changes in the exchange rates allow you to make money in the Forex market.
How does forex trading work?
Forex is similar to other types of securities, like stocks or cryptocurrencies. The main difference is that forex trading operates in currency pairs, such as EUR/USD (Euro/U.S. dollar) or JPY/GBP (Japanese yen/British pound).
When you make a forex trade, you sell one currency and buy another.
You make a profit if the exchange rate of the currency you buy is stronger than the currency you sold, and then you sell it again at a higher price.
For example, let’s say that the exchange rate between the euro and the U.S. dollar is 1.50 to 1. If you buy 1,000 euros, you will pay $1,500 U.S. dollars.
If the currency rate later moves to 1.70 to 1, you can sell those euros for $1,700, generating a profit of $200.
What moves the Foreign Exchange (Forex) market?
The forex market is not used only by small traders and companies. Also, the forex market is getting used by some types of institutions and traders in the forex market.
The forex is moving by Commercial & Investment Banks since the most volume of currency is traded in the interbank market. The Interbank market is where banks, independent of asset size, trade currency with each other through electronic networks.
Big banks account for a large percentage of total currency volume trades.
Banks facilitate forex transactions for clients and contact speculative trades from their trading desks.
Central banks are also traders, they represent their nation's government, and they are some of the chief players in the forex market.
A central bank is responsible for fixing the price of its native currency on forex.
The exchange rate regime in which its currency will trade in the open market is divided into floating, fixed, and pegged types.
Then we have the Investment managers and hedge funds (portfolio managers), pooled funds and hedge funds that make up the second-largest collection of players in the forex market next to banks and central banks.
Investment managers trade currencies for large accounts such as pension funds, foundations, and endowments.
Multinational corporations are firms engaged in importing and exporting conduct of forex transactions to pay for goods and services.
For example, let's say that an American phone maker is getting parts from China to make them and sell them to Europe. That means the American maker has to change his dollars in yuan to buy the parts and sell the phones in Europe and change the profit that's in Euro in dollars and then again from the start.
Companies trade forex to hedge the rust associated with foreign currency translations.
The same American phone maker might purchase Chinese yuan in the spot market or endear into a currency swap agreement to obtain yuan in advance to buy components from an American company to reduce foreign currency exposure risk.
There are also individual investors, they are small in numbers, but they are growing every day rapidly in popularity. Those investors base currency trades on combination with fundamentals such as interest rate parity, inflation rates, monetary policy expectations, and technical factors like support, resistance, technical indicators, and price patterns.
What is a forex online broker?
The Forex broker is where traders go to buy and sell currencies. The broker operates as a middleman between you and the market. In other words, to find a buyer or a seller of currencies, you can go to a broker, and they match you up with either a respective seller or a respective buyer.
In return, executing buy or sell orders, the forex broker will charge a commission per trade or a spread. That is how forex broker makes their money. That commissions are usually $5 per 100,000 treated per side. Trades sized under or over 100,000 may be charged on a pro-rata basis with a minimum of $0,01 per trade. If you wanna know if a forex broker is legit, you can ask the broker for the "Retail foreign exchange dealer number" (RFED), or you can check with the "National futures association" or the "commodity futures trading commissions". I would do that first.
Legally your broker can not steal your money, and there have been some instances that can tell us otherwise.
How to trade forex?
Firstly, you need an internet connection and then a reliable online broker. You will also need to have a smartphone, a tablet, or a computer to run a trading platform on it.
Keep in mind that if your internet connection fails, you will not have access to your platform, which means that if you have an open position, you can't modify or close it. The results of the open trade might not be the results that you want if the market moves against you. You must remember to set Stop-Loss (SL) and Take-Profit (TP). In this way, you can avoid high risks to your balance.
Secondly, you will need to open an online forex broker account which wouldn't be a problem no matter where you live, look for a broker that fits your requirements. Then choose which trading platform you will work on, open a live account and fund it.
Last but not least, when you complete all these steps, your Forex Live account is ready for trading.
Keep in mind that if you want to test a strategy is not necessary to use your money. You can always open a Forex Demo account from your broker. In this way, you can try it without risking or being afraid of losing your money.
Forex Terms to Know
In the world of Forex trading, you need to know some words or phrases that we use typically to say something that usually would like a lot of words or explaining to make into something small and understandable.
-Currency pair:
Two currencies in which the first, for example, EUR (we call that base currency) quoted in terms of the second like USD (we call that counter currency), "EUR/USD" represents the Europe euro quoted against the U.S. dollar.
-CFD: Means "Contract for Difference" and is a tool that the U.S market uses, but other markets use it too.
That means that if you Buy $10, you sell in a position for $11, you would get $1. This method of investing helps you invest in futures without owning the product.
-Commodity currencies: that's where currencies from the countries' economies rely heavily on commodity exports like New Zealand, Canada, Australia, etc.
-Position: Is the net amount of currency pair that provides exposure to movements in that pair's exchange rate.
-Pip: Pip is an acronym for (percentage in point). That represents the lowest changes in a currency pair's exchange rate, and the pip is the smallest currency pair at 0.0001.
-Exchange rate: The amount of currency counter and required in exchange for one unit of the base currency in a foreign exchange transaction. So if the EUR/USD exchange rate is "1.1900", it would cost $1.19 to buy 1 euro.
-Broker: This is a firm that executes transactions in financial markets for you.
-Order: An order given to your broker to make a transaction for you.
-Risk/Reward ratio: A measure of the profit potential per amount risked.
-Leverage/Margin: Leverage is the size of a trading position you can control with a given amount of "margin" or money placed on deposit on your trading account to be helped by your broker as collateral against trading losses.
-Long/Sort: That is a position in which one has online purchased or sold the base currency in a currency pair. Long passions are when you think the pairs exchange rate will rise or sort it when you think that the pairs exchange rate will fall.
-Spread: This is the difference between the asked price and the bid price (the difference between "Buy" and "Sell" price).
-Lot: This is a unit measuring a transaction amount. This lot size influences the risk you are taking.
The pros and cons of forex trading
Pros:
-Accessibility: The Forex market is among the most accessible market for individual traders. Traders can set up a forex account within one to three days and begin trading with a small amount of money in their balance. The Forex market is open 24 hours a day, five days per week, and that helps traders have a program on when to trade and what pair to trade in a day that fits their schedules the best.
-Potential for fast returns: The forex market moves fast and has serious liquidity. Because those two with the usually higher leverage available to forex traders mean, there may be potential for faster returns in the forex market than in some other markets.
-Easy selling: We have already seen that currencies are bought and sold in pairs, which means that whenever traders buy one currency, they are selling another. Short in some markets can be difficult because it requires borrowing assets and exposure to take them at risk. The Forex market is much different since traders can only speculate that a currency will decline in value, so they sell a currency and buy another pair with it, meaning traders avoid borrowing for this progress.
-Leverage: The access to leverage can make the difference between a small and a big profit in trading, and forex has better leverage resources than other markets.
-Fewer fees and commissions: Trading in equities, bonds, mutual funds, and other instruments is often subject to pricey commissions and sometimes hidden fees that can make trading more expensive than expected. Currency trading on the foreign exchange market spares participants these costs. Forex trading costs are determined solely by the bid-ask spread, which is the difference between the bid and the ask (buying and selling) prizes published by brokers in real-time and is another aspect of forex trading that makes it more transparent.
-Liquidity: As we said before, the foreign exchange market, known as ''Forex'' or ''FX'' is the largest financial market in the world. That means there is usually ample liquidity for trading, especially in major currencies. Liquidity is by far one of the key benefits that make a lot of traders enter the forex market.
-Strategy: To be successful as a forex trader, you need to analyze the charts and do forex analysis wth technical analysis based on price histories and tents to leave clues regarding the market perception of supply and demand. The strategy is different from a fundamental analysis, which requires detailed background information about the financial health of assets.
-Less potential for insider price manipulation: Bond and stock markets can change by private information held by insiders and stakeholders of those assets and controlling the currency market. However, far less centralized and less influenced by insider information. Forex is one of the most transparent markets for trading because we know that the holders of any potential "inside information" regarding possible currency price movements are government officials or the central banks. Both are exposed to the public and can't keep them private.
-Automation: Forex is well known for its automated bots and trading strategies. With some searching, forex traders can set up automated trades by programming entry, stop-loss,take-profit and limit prices in advance of making a profit. A forex trader with a profitable automated strategy may be able to take full advantage of the day-to-day swings in the forex market without exhausting their physical and mental faculties by putting in trades to keep up with the latest shifts in the market.
Cons:
-Volatility: While all the markets can show volatility at one time or another forex market is no different. Some traders hope for short-term profits. Because of that, traders may come face to face with unexpected extreme volatility, which means they can make their currency trading strategies unprofitable.
-Lighter regulatory protection: The forex market can not carry out a centralized exchange, and regularity oversight is sometimes limited. Because of this, traders may need to do a "due diligence" investigation of their broker's reputation and trading practices before signing up for an account.
-Small traders may face some disadvantages: Forex has more than $5 trillion traded daily on the global forex market, and the bulk of the market. Forex Trading will always be affected by big players like banks, hedge funds, and other big financial institutions.
Because of the volume of trading and their greater access to information and technology, these players can have a natural advantage in setting prices and influencing price movements in the market. For most markets, this is true, and it is especially apparent in the forex market. That makes the traders stay abreast of the latest fast-moving changes in market conditions and can be sure that their currency exchanges are profitable.
-Fewer residual returns: Bonds and stocks often make regularly scheduled interest and dividend payments that can enhance the long-term value of buying assets. However, forex trading customarily aims at obtaining capital gains from the appreciation of one of two currencies in a given currency pair. On the other side, forex trading positions that are open overnight can yield or pay interest that depends on the difference in internet rates practised in the countries issuing the currencies bought and sold. That interest is called "rollover" or "carry" interest.
Very informative. Thanks!