Forex, as the name indicates, is the process of exchanging one currency for another. But when it comes to trading currency for profit rather than pleasure, the process is a little more complex.
The forex market, where currencies are exchanged and traded for profit, is the largest market in the world by daily trading volume, making it one of the most liquid markets in the world. The market itself lacks a centralized venue for trades. The market is open 24 hours a day, five days a week – making it the only nonstop trading market in the world.
Moreover, thanks to the lack of a centralized marketplace, modern forex trades are conducted electronically OTC (over the counter) via a network of interbank trading terminals and computer networks.
While this provides speed and widespread access, it also means that the forex market is less transparent than other financial markets. OTC markets don’t require financial disclosures – and large liquidity pools from major institutional firms are a prevalent feature. (In fact, the motives of financial institutions trading forex often plays the most important role in determining currency prices.)
Currency, in its base form, is a crucial element of any economy, as it’s what allows individuals to purchase goods and services, both locally and across borders. Currency exchanges facilitate this process – not just for travelers on holiday to Canada, but for international businesses seeking foreign trade, and the investors hoping to make a fast buck.
The value of each individual currency varies based on factors such as:
When you trade currency on the foreign exchange market, you always trade in pairs. There are four types of currency pairs of which to be aware in the forex market:
Forex pairs are traded in lots, with the size of the lot dictating the type of forex account.
Prior to the internet, currency trading was mostly conducted by large hedge funds, multinational corporations, and commercial and investment banks who could front the capital required.
And while commercial and investment banks still make up the majority of forex trades today, the proliferation of the internet – and secondary market brokers willing to front massive leverage to their clients – means that individual and professional investors can seek their fortunes in the currency markets, too.
In fact, it’s not uncommon for a broker to allow leverage up to $1 for every $100 traded. In other words, a $10 investment can net an investor a micro lot up to $1,000 worth of currency. And while this can enhance an investor’s gains, it also enhances losses indiscriminately.
The forex market provides a way for investors to profit off the fluctuations in foreign currency exchange rates. In fact, the word itself is an amalgam of “foreign” and “exchange.”
But how do investors make their fortunes (or not) in the forex market? It all comes down to two distinct features that make forex an attractive asset class:
There are a few ways to trade forex:
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