Financial marketsForex Trading -101

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Forex, also known as foreign exchange or FX trading, is the conversion of one currency into another. The Forex market is a global marketplace for exchanging national currencies. It is one of the most actively traded markets of the world, it is also the largest and most liquid market. Trading over $5 trillion every day. According to IG , Forex can be explained as a network of buyers and sellers who transfer currency between each other at an agreed price. It is the means by which individuals, companies and central banks convert one currency into another – if you have ever travelled abroad, then it is likely you have made a forex transaction.

While a lot of foreign exchange is done for practical purposes, the vast majority of currency conversion is undertaken with the aim of earning a profit. The amount of currency converted every day can make price movements of some currencies extremely volatile. It is this volatility that can make forex so attractive to traders: bringing about a greater chance of high profits, while also increasing the risk.

The forex market is run by a global network of banks, spread across four major forex trading centers in different time zones: London, New York, Sydney and Tokyo. One unique aspect of this international market is that there are no physical buildings that function as trading venues for the markets. Rather, currency trading is conducted electronically over the counter, which means that all transactions occur via computer networks between traders around the world, rather than on one centralized exchange. The market is open 24 hours a day, five and a half days a week, and currencies are traded worldwide in the major financial centers across almost every time zone. As such, the forex market can be extremely active any time of the day with price quotes changing constantly.

In the past, the forex market was dominated by institutional firms and large banks, who acted on behalf of clients. But it has become more retail-oriented in recent years with traders and investors of many holding sizes have begun participating in it. Participants in this market are institutions, investment banks, commercial banks, and retail investors.

Photo by Austin Distel on Unsplash

So how can you make money from trading Forex?

When trading Forex you should be aware that you are taking on a speculative risk. In essence, you are betting that the value of one currency will increase relative to another. More specifically, that the currency you bought will increase in value compared to the one you sold. Therefore in order to make money from the Forex market you have to buy low and sell high.

According to Investopedia, currency trading is generally more profitable for active traders than passive investors because of low trading costs, diverse markets, and the availability of high leverage. It is possible to frequently trade forex without high transaction costs and the forex market offers access to much higher levels of leverage for experienced traders. Leverage in Forex is the means of gaining exposure to large amounts of currency without having to pay the full value of your trade upfront.

When trading forex you are exchanging the value of one currency for another. In other words, you will always buy one currency while selling another at the same time. Because of this, you will always trade currencies in a pair. Each currency in the pair is listed as a three-letter code, which tends to be formed of two letters that stand for the region, and one standing for the currency itself. For example, GBP/USD is a currency pair that involves buying the Great British pound and selling the US dollar.

A base currency is the first currency listed in a forex pair, while the second currency is called the quote currency. The price of a forex pair is how much one unit of the base currency is worth in the quote currency. So in our example, GBP is the base currency and USD is the quote currency. If GBP/USD is trading at 1.35361, then one pound is worth 1.35361 dollars.

If the pound rises against the dollar, then a single pound will be worth more dollars and the pair’s price will increase. If it drops, the pair’s price will decrease. So if you think that the base currency in a pair is likely to strengthen against the quote currency, you can buy the pair (going long). If you think it will weaken, you can sell the pair (going short).

You can learn how to trade forex on forex.com.

Diana Thuo

Financial Engineering undergraduate with deep interests in Personal Finance and Investment.

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