Let's immediately determine that forex is a market where interested people (traders) change one foreign currency for another online at the exchange rate of the largest global OTC participants. The market is so liquid and global that it is not tied to certain exchanges. Opening transactions online is faster and more profitable than in an exchange near your home.
However, the amounts appearing here are many orders of magnitude higher, and therefore the trading turnover of the forex market is currently the largest in the world. In fact, neither the stock market with all the shares of the world, nor the metal market with all the available gold in circulation can compare with the forex market in terms of purchase and sale turnover, the average daily turnover of which exceeds 6.5 trillion dollars.
Just imagine this financial power!
Read more: What is OTC and what are its features
The meaning of the term Forex
Forex stands for exchange of foreign currency. These two words are the basis of the abbreviation Forex or FX.
In this market, it is really possible to start making transactions for the purchase and sale of foreign currency in a fraction of seconds, since it operates around the clock 5 days a week, and has a huge turnover. Currency exchange rate fluctuations are several times lower in comparison with the stock market. The combination of these properties allows brokers to provide margin trading for their clients, that is, you can open transactions with a volume that significantly exceeds your current financial capabilities. To do this, intermediary brokerage companies provide leverage.
Read more: What is a Leverage in Forex
How does Forex work?
The main thing that needs to be understood on the topic of forex is that the price of the currency is constantly changing.
Now, for example, the euro costs $1.2, and an hour later it is already 1.19. The value of one currency expressed in another is called a quote. Each such quote gets on the chart in the trading platform and puts a point on it. This point is automatically connected to the previous mark of the asset price. So in forex, a price chart is drawn in real time, and traders sit in front of monitors or smartphone screens and watch how the chart changes in order to understand when to start trading.
We have already mentioned a common modern solution-leverage. Its essence boils down to the fact that at the time of opening a transaction, the brokerage company adds its own additional funds to your own funds. The size of such generosity ranges from 1:1 (when you trade only on your own) to 1:500 (when the broker adds another 500 to each of your dollars).
Read more: Forex broker: how to choose a good broker
Brokers also often allow their clients to trade in smaller volumes than they trade on the market, that is, in fractional lots. The standard size of the minimum transaction is about $100,000. However, many brokers allow you to make transactions with a tenth or a hundredth part of this amount.
Thus, it turns out that you can join trading on the global forex market and trade amounts from $10,000 even with a relatively small capital, i.e. from $100.
What is traded on forex?
The main currencies traded through online platforms are the US dollar (USD), euro (EUR), Japanese yen (JPY), Pound sterling (GBP) and Swiss franc (CHF). However, you can also start trading cross-rates: pairs that do not include the US dollar.
If everything is good in the country and the indicators-indicators of the health of the economy come out even better than expected, then the exchange rate of the national currency will most likely grow. And if the news is bad and the statistics for the region are not encouraging, then you can not count on the growth (strengthening) of the currency. In other things, not everything is so clear, fluctuations occur within a week or a day, which are helped by visual lines, the so-called technical indicators of trading. They help to determine in which direction the price is moving now, how strong the existing trend is and what will potentially happen next.
Read more: Methods for determining trends in the Forex market
Traders are guided by these indicators and economic news from the feeds of global information agencies. Based on the entire array of information, users draw conclusions, catch a favorable moment to start – and open deals up and down, to buy and sell.
Here's how it works: let's give an example of the most popular currency pair of the market – euro-dollar (EURUSD). The US dollar on forex depends on the situation in America, the euro depends on the situation in the European Union. Traders around the world learn news about these regions and react to them either by increasing demand for the euro and the dollar, or by decreasing it.
If there are more people on the market who are determined to buy the euro (the currency that is the first in the pair), the price of EURUSD increases. If there are more people on the market who are determined to sell euros, the price of EURUSD falls. This is how the basic law of Supply and demand works.
Those who believe that the quotes will grow are called bulls. Those who are sure that the price will fall are called bears.
Read more: How to determine the beginning of the movement of the "bull" market?
However, if the statistics on the Eurozone do not impress traders, and there are more people on the market who are determined to buy dollars (the currency that is the second in the pair), then the EURUSD rate will begin to decline, i.e. go in favor of the dollar. Analysts say about this situation: "The dollar has started to strengthen against the euro."
Main participants
Central banks
Their main task in the process of online trading is currency regulation in the foreign market, namely, preventing sharp jumps in the exchange rates of national currencies. This is necessary to prevent the beginning of another wave of economic crisis, as well as to maintain the balance of exports and imports. Central banks, their decisions and speeches of their representatives have a direct impact on the forex market.
In the United States, the main regulator is the Federal Reserve System (FRS), in Europe – the European Central Bank (ECB), in Britain – the Bank of England (BoE), in Japan, respectively, the Central Bank of Japan.
Read more: The European Central Bank (ECB)
Commercial banks
They carry out the main volume of foreign exchange transactions. Other market participants, through accounts opened in commercial banks, carry out the necessary exchange and deposit-credit operations.
The world currency markets are most influenced by large international banks, whose daily volume of transactions reaches billions of dollars. For example, these are Deutsche Bank, Barclays Bank, Union Bank of Switzerland, Citibank, Chase Manhattan Bank, Standard Chartered Bank and others.
Firms that carry out foreign trade operations
Companies involved in international forex trading are divided into importers and exporters. Importers constantly demonstrate a steady demand for foreign currency, while exporters, on the contrary, offer foreign currency for sale, as well as place or attract free foreign currency funds as short – term deposits.
Read more: Bulls and bears, as well as other animals on the stock exchange
Companies that carry out foreign investments of assets
These are, first of all, investment funds, Monetary Funds and International Corporations, such as Xerox, Nestle, GE (General Electric), BP (British Petroleum) and others.
Currency exchanges
Currency exchanges operate in a number of key countries of the world (the USA, Britain, Australia, Japan, etc.). Their main function is the implementation of currency exchange for legal entities and the formation of the current trading rate for each pair. As soon as a quotation appears on the exchange, it is transferred to the liquidity providers, and they, in turn, transfer it to the brokerage companies with which they have concluded a contract. This is how the new price turns out to be in the online platforms of private traders connected to the market by the same broker.
Brokerage companies
The function of these intermediaries between the exchange and private traders is to bring together the buyer and seller of foreign currency and carry out a purchase and sale transaction between them at the current price. All operations are carried out online, through branded trading platforms. The most popular of them among retail investors are MetaTrader 4 and MetaTrader 5.
Read more: Why are the MetaTrader 4 & 5 trading platforms so popular?
For their mediation in the trading process and the withdrawal of transactions to the market, brokerage companies charge a commission in the form of a percentage of the transaction amount-the spread. This is the difference between the price at which traders buy a currency and the price at which they sell it.
Private individuals
Personally, you can act as both a buyer and a seller. Physically, you do not need to have a currency on hand for online exchange: you simply join the process of changing the price of currency pairs (speculate). It is this process that describes, in fact, the entire modern online trading.
How are transactions made?
It is convenient that you can buy and sell currency (speculate on changes in quotations) online, at any time on weekdays – and even from your mobile. To do this, you need a trading platform, which is also called a terminal. This is a convenient program that is available both in the browser, in the form of a mobile application, and in the form of software for installation on a national computer.
In simple words, you open this platform and click the Sell button when you assume that you will be able to make money on a price reduction, or click Buy when, according to your expectations, the price of the selected currency pair should grow.
This is the basic principle of forex trading. Of course, there are a lot of nuances and ways to increase the probability of the correctness of your forecast.
Where should a beginner start?
An important point in forex trading is the choice of a convenient and reliable broker. A lot depends on it: trading conditions, the speed of execution of orders, the reliability of the flow of quotes, consulting support and the convenience of resolving conflicts.
Many of these factors can be checked even when opening a demo account. By the way, this training account with a virtual balance is an indispensable thing, definitely necessary for trading, especially for beginners.