What Is the Forex Market?

The Forex market is possibly the largest trading market in the world, with an estimated value of US$4 trillion traded every day. Unlike the stock or commodities markets, it is not concerned with any material goods or industries, but simply the relative value of different foreign currencies. Forex stands for “foreign exchange”, also known as currency exchange or currency trading.

Because Forex trading only involves currencies, and most trades involve very few currencies, it is very simple in concept. In practice, because currencies have so many factors that affect their value, it can be more complex to analyze than, say, a company’s accounts. However when you are trading, most of your opportunities will be identified with technical analysis, and therefore the background analysis of why changes happen is less important.

 

What Is the Forex Market?

When you trade currencies, you have to trade one currency against another. Currencies are always traded in pairs, for instance how many US dollars can I buy for £1? The answer to this at this moment is 1.6474, and the symbol used for this is GBP/USD or sometimes simply GBPUSD. This is one of the major currency pairs traded and is known colloquially as “cable”.

Whenever you see a currency pair, the first named currency, in this case the Great British Pound (GBP), is considered the primary currency, and the value quoted is the amount of the second currency, US dollars (USD) that can be bought with one unit of the primary. There are only about six currency pairs comprising the majority of foreign exchange trading, and they include the Australian dollar (AUD), the Canadian dollar (CAD), the euro (EUR), the Swiss franc (CHF), and the Japanese yen (JPY), with most of the pairs including the US dollar as the primary currency. In fact the preponderance of Forex trading includes the US dollar as one of the two currencies.

Although currencies have been bought and sold for years, the Forex market as we know it nowadays is comparatively recent compared to, say, the stock market. A while ago, many currencies were pegged to the value of gold or to other currencies, but this situation changed in living memory to allow full floating of the exchange rates. With the addition of the Internet, this has created an opportunity for members of the general public, known as retail traders, to readily join in trading the currency markets.

One of the reasons for Forex’s growing popularity is that the Forex market takes place around the world, and therefore can be traded 24 hours a day, 5 1/2 days a week (as they stop at weekends). This means that no matter what time of day or night you have spare for trading, you can find an active market. Most trading is short-term, with trades being opened and closed within minutes, hours, or at most days.

There is no central market, such as with stocks. The greatest amount of Forex trading takes place in London, but even this accounts for only one third of all transactions. Modern technology ensures that no matter where in the world you are located, you will have the latest price quotations available.

If you become involved in Forex trading, it will not be long before you hear the word “PIP”. This is a common measurement used by traders, and is the fourth decimal place of the value. That is why the quote above was 1.6474. If the value went up to 1.6475, it would have gained one PIP. Although as you can see the PIP is only 100th of a cent, an impossibly small amount, Forex trading deals in large amounts of currency which means that the profits and losses can be significant.

When you trade, you can choose either currency to increase relative to the other. If in our example you thought that the pound sterling was going to increase in relative value, you would place a “long” or “buy” trade on the pair, and if you favoured the US dollar you would “sell” or “short” the pair. It does not matter what your local currency is, you can still take either position.

With true Forex trading, you have set amounts or “lots” of currencies to trade. However, you can also trade on the Forex market with spread betting, and by doing this you can choose the amount that you stake. In either case, if you decide to try Forex trading you should look for the facility of a demo or free account so that you can practice without risking any money.


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