In a nutshell, forex stands for foreign exchange, and it is the process where one currency is changed into another — usually for trading, commerce, and tourism purposes. It’s one of the largest financial markets in the world. In fact, Asian Banking and Finance reports that the daily turnover rate for the global forex market has hit an average of $6.6 trillion, due in part to the surge in forex swaps for liquidity management and hedging of foreign currency portfolios.
In this post, we’ll discuss everything you need to know about forex trading.
What is Forex Trading?
Forex is the means by which individuals, corporations, and financial institutions convert one currency into another. It’s a global network of buyers and sellers that transfer currency between each other at a set price.
Every day, foreign exchange is done for practical purposes — whether it’s importing goods from Italy and paying in euros instead of dollars, or exchanging your local currency for yen at the Tokyo International Airport before you set out and see Japan. However, a huge deal of foreign exchange transactions is undertaken with the goal of making a profit. The demand for a certain currency increases and decreases in relation to other currencies, and this price movement allows traders to earn a profit simply by watching the market and strategically buying or selling a currency at the perfect moment.
Why Trade Forex?
Forex is one of the most popular types of investment in the world — and for good reason. FXCM’s guide to forex trading highlights three key benefits to trading currencies: 24-hour exchanges, margin trading, and unmatched liquidity. Unlike the stock exchange market, where traders are restrained by physical marketplaces, the forex market happens on a computer network where traders around the world buy and sell currencies electronically. As currencies are traded daily in major financial centers like New York, London, Zurich, Hong Kong, Sydney, and Tokyo, the market is open 24 hours a day, five and a half days a week.
Another reason why trading forex is a good idea is that it allows for margin trading. Margin allows traders to leverage borrowed money in order to invest more than what they can with their capital alone. This involves placing a good faith deposit so traders can open and maintain a position in a currency of their choice. The amount of margin varies per forex broker, but usually, a 1% margin is a common sight in forex markets — giving investors the chance to control $100,000, for instance, with just a measly $1,000.
Lastly, the main currencies traded in forex have deep liquidity, making it easy to get in and back out of trades — disregarding transaction size and time. Liquid markets also tend to be more logical, as they follow trends, price patterns, and other factors that affect the value of a currency. Because of this, forex brokers can craft accurate automated trading systems that use algorithms to help traders make better profits. Moreover, an article by Data Driven Investor points out that traders can even adapt their own trading strategy into automated systems through coding, allowing them to find better success in simultaneously trading different currency pairs and generate bigger profits.
Before Starting Your Forex Trading Career
But while it’s very much a possibility for traders to earn high profits from forex trading, it also carries a ton of risk. That’s why more than just having a basic understanding of forex, successful traders should also know financial market moves and the fundamentals of investing. In our post on ‘A Beginners Guide on How to Start Investing’, we pointed out that investing books for beginners are a good way to update and reinforce your financial knowledge before you start investing in something like forex. By understanding the basics of investing and the movements of the financial market, you can improve your chances of finding success in forex trading.