Financial markets are the infrastructure that connects buyers and sellers of financial instruments such as commodities, equity, bonds, treasury bills, debentures, etc. In some of these transactions, some creditors provide finance to debtors in exchange for interest, dividends, or profits. Financial markets comprise the debt, equity, Forex, and derivatives markets, and this article explores Forex Trading.
Also referred to as FX or the Foreign Exchange market in full, Forex Trading occurs where traders transact in currencies pairs in anticipation of a price movement. Often, most people participate in the currency trade out of necessity for foreign travel or trade.
When profit speculation is the motive, strategy is key to hedge losses and maximize profit through long or short selling. The Forex market has high liquidity as the investments are held in actual cash.
Forex Trading Is Online
The global network of banks, which makes up the Forex, monitors the London, Sydney, Tokyo, and New York markets to analyze the volatility of the GBP, AUD, JPY, and USD respectively in relation to other currencies.
Thus, there is no established forex market like the case for Stocks and bonds. Instead, Forex trading is performed over the counter (OTC) on Online Forex Brokers. Commercial banks, central banks, and individuals who analyze market activities of a currency determine the prices, and the data is captured in real-time by the brokerage platforms.
Macroeconomics and international economic factors such as the balance of trade between countries, political risks, and other economic indicators determine exchange rates in the forex market.
Types Of Forex Trading
1. Future FX
This is a legally binding agreement between two parties to exchange currencies at a determined date in the future. It is ideal for global contractors who anticipate performing a contract in a foreign country in the future. For instance, a German company intending to build a road in Australia can enter a future agreement with an Australian bank to buy AUD at a fixed price in the future regardless of market dynamics.
2. Forward FX
This is a non-binding contract to exchange currency in the future at a pre-agreed value.
3. Spot FX
This is where the currency exchange takes place after the transaction. Both the buyer and seller take possession of the different currencies.
Interpreting The Currency Pairs
In the FX market, there is simultaneous selling and buying of currencies in pairs. The pairs are shown in three alphabet symbols such as the tickers on stock markets for easy identification and simplification of charts and lists.
If the pair is GBP/USD, the first symbol is the base, and the second is the quote. The key focus is the base where a trader is concerned with either selling or buying, referred to as a bid and ask prices. A base is a unit (1), and it shows how much of the quote currency is required to either sell or buy the base currency. For illustration, if the bid price is 1.2, it means that 1 GBP can be purchased for 1.2 USD.
However, the transaction is not always that straightforward. The maximum price that the buyer is willing to pay for the currency (bid price) in relation to the minimum price that the seller can accept (ask price). The tradeoff between the ask and bid price is the price equilibrium that determines the exchange rates. It is subject to the supply and demand of the currencies forming the pair, set by the respective markets.
In the meantime, the difference between the bid and ask price is known as the bid-ask-spread. When the spread is narrow, it shows that liquidity is low in the market, which depreciates the quoted value.
Forex PIP
PiP is an acronym for (Percentage in Point), representing the smallest increase a currency can make. Apart from the Japanese Yen, which is quoted in four decimal, the other pairs have a PiP of 0.0001, the smallest price movement leading to either profit or loss.
For instance, USD/UAD exchanging at 1.2621 has an upward pip of 0.0001, and a trader invests $50,000. The expected profit is calculated as 0.0001/1.2621($50,000), giving a $3.9617.
Lot, Leverage, And Margin
A lot is a unit of currency that is required for a forex transaction. The standard lot is 100,000 units, which can be broken down into a mini lot (10,000 units), a micro lot (1,000 units), and a nano lot (below 1000 units). Since 100,000 units of a currency may be too much for some traders, and there is always a need to cash out on the pip, the brokerage platform allows traders to borrow from the firm and stake for a fee. This is known as the margin, which on some platforms is referred to as a mandatory deposit.
Getting Started In Forex Trading
Forex trading brokerage platforms offer the most secure FX trading platforms. The ideal platform has tools and instruments to facilitate profitable trading. There are also features such as the MetaTrader that facilitates automated trading based on market events that determine price movements.
