What is Forex Trading?

FOREX or FX stands for Foreign Exchange is the world’s most traded market place where national currencies are traded, and Forex Trading refers to the process of changing one currency into another currency. It is basically a network of buyers and sellers who transfer currencies between each other at an agreed price. Simply put, if you think one currency is stronger than the other and trade it, you end up making a profit.

Now, with this article, we aim to guide you through the Forex World and build an understanding of what exactly the Forex Market is, who trades in it, what moves these markets and How does forex trading work. So, let’s discuss each part in detail –

What is the Forex Market?

The foreign exchange market is where various national currencies are traded. To conduct foreign trade and business, these currencies need to be exchanged. For instance, if you are living in Europe and your business requires something from the U.S., then your company has to pay them in US Dollars (USD). The importer would have to exchange the equivalent value of the EURO into USD.

The same goes for traveling. When you travel to any other country and exchange your national currency (the currency in your pocket) with the currency of the country you’re visiting. As a tourist, you have to exchange the currency into local currency. This will be considered as a Forex transaction.

The international foreign exchange market has no central marketplace, and the trading is conducted OTC (Over-the-counter) electronically. This means, instead of having one centralized exchange, all transactions between the traders occur via computer networks.

The foreign exchange market is accessible 24 hours a day, five and a half days a week. Currencies are traded in almost every time zone – London, New York, Singapore, Hong Kong, Paris, Sydney, Frankfurt, Zurich. The forex market is extremely active at any time of the day. The price quotes for the currencies change constantly!

Who Trades Forex? And Why?

Forex is largely traded by Central Banks, Banks, Corporations, Retail Traders, etc. for a variety of reasons – commerce, trading, tourism, etc.

Central Banks are the ones who intervene in the Forex Markets as they control it. Banks trade to provide liquidity to the corporations as well as hedge their book in case of currency risk. Corporations may trade to buy or sell raw materials as per their requirements, and lastly, retail traders – who are like you and me, who trade to make profits.

How does Forex Trading Work?

FX Trading takes place directly between two parties in the Over-The-Counter (OTC) market. Traders can buy one currency and simultaneously sell another. Trading is done in an attempt to make profits by buying and selling currencies based on speculations on the direction currencies are likely to take in the future.

Three Types of Forex Markets –

• Spot Market – When Currency pairs are physically exchanged, taking place in the present or “on the spot” or within a short period (usually in two days)
• Forward Market – Contract is bought and sold OTC between the two parties, who decide the teams of the agreement – specify price, date, and time of settlement.
• Future Market – Future Contracts have specific dates, the number of units to be traded, delivery and settlement details, and a set currency price. This contract is legally binding.

Currency Pairs

A currency pair involves two currencies, one being the base currency, and the other is called the quote currency. There are three types of currency pairs –

• Major Currency Pairs – EUR/USD, USD/JPY, USD/CHF, AUD/USD, GBP/USD, and USD/CAD
• Minor Currency Pairs – EUR/GBP, GBP/JPY, EUR/CHF
• Exotics – USD/PLN (US dollar vs. Polish zloty), EUR/CZK, GBP/MXN (Sterling vs. Mexican peso)
• Regional – AUD/SGD, AUD/NZD (Australian dollar vs. New Zealand dollar), EUR/NOK (Euro vs. Norwegian krona)

The EUR/USD currency pair considered to be the most liquid currency pair in the world. The USD/JPY comes second on the most popular currency pair list in the world.

Suggested read: Start forex trading

What moves the Forex Markets?

The forex market is driven by two primary forces – Supply and Demand.
When the value of the currency is increased, the demand increases and supply decreases. When the value decreases, the demand is smaller than its supply. Capital Flows (net quantity of currency traded) and Trade Flows (net imports and exports of the country) are the two main factors that influence the movements in the exchange rate.

Capital Flows + Trade Flows = Balance of Payments.

Let’s understand what other factors influence the fluctuations in prices.

• Central banks move forex markets through monetary policies, exchange regime settings, and, in rare cases, currency interventions. They control the supply and announce the measures that will have a significant effect on currency prices.
• News Reports and Human Sentiments play a major role in driving currency prices.
• The economy’s performance matters as it gives insights into what the central bank’s next step might be.

Suggested read: What is volatility in forex market

Conclusion

Forex Market is extremely liquid and is open 24 hours a day for traders to find trading opportunities.

Want to know more about trading world, how to trade forex and where to find the right opportunities? We will help you get a full understanding of the forex world and gain new insights and have proper knowledge so you can enter the trading world with confidence!