FOREX TRADING: What is Forex?
Forex trading is a term used to describe individuals that are engaged in the active exchange of foreign currencies, often for the purpose of financial benefit or gain. That can take on the form of speculators, who are looking to buy or sell a currency with the goal of profiting from the currency’s price movement; or it can be a hedger that’s looking to protect their accounts in the event of an adverse move against their own currency positions.
The term ‘forex trader’ may describe an individual trader on a retail platform, a bank trader utilizing their institutional platform, or hedgers who may be either managing their own risk or outsourcing that function to a bank or money manager to manage the risk for them.
FOREX TRADING: THE FX MARKET
The foreign exchange market, or forex (FX) for short, is a decentralized market place that facilitates the buying and selling of different currencies. This takes place over the counter (OTC) instead of on a centralized exchange. Without knowing it, you have probably already participated in the foreign exchange market by ordering imported products such as clothing or shoes, or more obviously, buying foreign currency when on vacation. Traders may be drawn to forex for several reasons, including:
- The size of the FX market
- A wide variety of currencies to trade
- Differing levels of volatility
- Low transaction costs
- 24 hours a day trading during the week
This article will address traders of all levels. Whether you are brand new to forex trading or looking to build on your existing knowledge, this article seeks to provide a solid foundation to the foreign exchange market.
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FOREX TRADING: TWO SIDES TO EVERY MARKET
One unique aspect of the Forex market is the manner in which prices are quoted. Because currencies are the base of the financial system, the only way to quote a currency is by using other currencies. This creates a relative valuation metric that may sound confusing at first, but can become more normalized the longer that one works with this two-sided convention. Forex trading in a pair does offer the trader a bit of additional flexibility, by allowing the trader or investor the ability to voice their trade against the currency that they feel most appropriate. Let’s take the Euro for example, and let’s say a trader has optimistic projections for the European economy and would thusly like to get long the currency. But – let’s say this investor is also bullish for the US economy, but is bearish for the UK economy. Well, in this example, the investor isn’t forced to buy the Euro against the US Dollar (which would be a long EUR/USD trade); and they can, instead, buy the Euro against the British Pound (going long EUR/GBP). This affords the investor or trader that extra bit of flexibility, allowing them to avoid ‘going short’ the US Dollar to buy the Euro and, instead, allowing them to buy the Euro while going short the British Pound..