The Foreign Exchange Market, also known as Forex, currency market, or simply FX, is a decentralized market where currencies of different countries are traded, usually through brokers. Currencies of the world are simultaneously and continuously traded across global and local markets, and the investment value of the traders will either increase or decrease based on the movements of the currency. The conditions in the Forex market may change any time as a response to current events.
The primary incentives of Forex trading to individual traders as well as the main highlights of short-term trading in the Forex market are the following: 24-hour non-stop trading for five days a week with access to Forex brokers around the world.
Other incentives of Forex dealing include:
- Basic Forex tools for regulating risk exposure
- Bulk liquid market that makes it easy to trade world currencies
- Profitability in changing markets
- Unstable markets providing opportunities to earn
- Gear trading with minimal margin requirements
- Different options for zero-based commission trading
Training for Forex Market Trading
The goal of an investor in Forex trading is to make profit from the movements in the currency. Forex dealing is always done in pairs. For instance, the exchange rate of Japanese Yen to the United States Dollar on December 1, 2014 was 0.0085. This value is known as the “Forex rate” or simply “rate”. If the trader purchased 100,000 Japanese Yens on that day, he needs to pay 850.67 U.S. Dollars. One month later, the rate was 0.0120, hence the value of the Japanese Yen (the numerator in the JPY/USD ratio) increased. The trader can now sell the 100,000 JPY to receive 1,200 USD. Hence, the trader will have 349.33 USD higher than what he had begun a month earlier.
But to determine if the trader made a good investment, it is crucial to compare this investment to alternative options. At the very least, the ROI must be evaluated in comparison to the revenue on the “zero risk” investment. A good example of a zero-risk investment is a long-term bond issued by the US government because it is impossible that the bond will be on default. This means that there is almost zero possibility that the US government will go bankrupt or cannot pay the bond at its maturity date. Bear in mind that the previous performance is not a good basis to project future performance.
In dealing currencies, it is highly recommended to trade only when there’s a high possibility that the currency you want to buy will increase its value in relation to the currency that you will sell after a certain period of time. If the currency that you are purchasing increases its value, you can sell it back to its currency pair to make a profit. An open position, also known as an open trade, is a deal in which an investor has traded a certain pair of currency and has not yet purchased back or sold the equivalent value to close the trade.
At least 70% of the trades in the Forex market are unpredictable. Hence, the individual or a company that trades the currency has no plan to actually deliver the currency in the end, instead they are only speculating on the movement of that specific currency.
Currencies are traded in pairs and exchanged during the trade. The rate at which they are traded is known as the Forex rate. Most world currencies are traded against the United States Dollar (USD), and the four most-traded currencies are the Japanese Yen (JPY), Swiss Franc (CHF), Euro (EUR), and the British Pound Sterling (GBP). These currencies are considered the most important currencies in the market. Other sources also consider the Australian Dollar (AUD) as an important currency.
The first currency in a Forex pair is known as the base currency, while the second currency is referred to as the quote currency or counter currency. The counter is hence the numerator in the pair, and the base currency serves as the denominator. The default value of the base currency is set to 1. Hence, the rate represents how much the counter currency should be paid to acquire a unit of the base currency. The Forex rate also represents how much will be received in the counter currency when selling a unit of the base currency. For instance, the rate for EUR/USD of 1.1285 tells that that the trader who wants to buy Euros should pay 1.1285 USD to acquire 1 unit of Euro.
At a given time and place, if the trader purchases any currency and sells it without the chance in the Forex rate – the trade is not profitable. The reason behind this is the fact that the bid price that signifies the amount to be received in the counter currency when trading one unit of the base currency, is always below the ask price that signifies how much should be paid in the counter currency when purchasing a unit of the base currency.
For instance, a bank may offer a EUR/USD bid/ask rate at 1.1285/1.2285, signifying 1000 pips spread (one pip is equal to 0.0001). This rate is quite high when you compare it to the bid/ask rate that online traders usually encounter, like a 1.1285/1.1290 with 5 pips spread. Generally, it is more favorable for a Forex trader to invest with a currency rate with lower pips because it will only require a minimum movement in the Forex rates to make revenue. Most Forex traders such as easy-forex are compensated with the spreads that are already embedded in the currency rates.
Online Forex traders and banks will require collateral to make certain that the traders can still pay even with a loss. The collateral is known as the margin and also referred to as a minimum security in the foreign exchange market. Practically, the margin is a cash deposit to the account of the trader that will be used to cover any losses.
The Forex margin enables individual traders to participate in the market with high minimum units of trading by permitting investors to hold a higher position compared to the value of their account. Margin trading will also increase the rate of profit, but there’s the possibility of loss aside from the systemic risk.
Leveraged Forex Financing
Leveraged financing in the Forex market is very common. It involves the use of credit like a purchased trade on a margin. The initial deposit will serve as collateral for the leveraged amount in the margin account. This will enable the trader to control as high as USD 100,000 with only USD 1,000 in the account. Even small movements in the market will have a relative significant impact on the amount you have deposited. This has rewards and drawbacks, and you could sustain total loss in the margin funds deposited and other extraordinary funds deposited to sustain the trading positions.
Direct and Indirect Methods of Trading in the Forex Markets
- Trading Options
- Spread Betting
- Spot Market
- Futures and forwards
- Contract for Differences (CFDs)
- Forex Spot Trading
Spot trading is a direct exchange of one currency to another currency. The rate used in spot trading is the present market price, which is also known as the benchmark rate. It is not required to settle the payment instantly for spot trading. The value date or the settlement date refers to the second business day after the trading day or the deal date, in which the trade is agreed by two investors. The two-day allowance gives time to verify the agreement and organize the clearing and the required crediting and debiting of bank accounts in different locations worldwide.
Risks in Forex Trading
Like most types of investments and trading, risk is always present in the Forex market. However, there are several ways to minimize the risk such as establishing a Stop Loss on trades. Be sure to read more about the risks involved in the Forex market and how to minimize the vulnerability of the risk of your trades.