01. What is Forex Trading and How Does It Work?
What is forex? A global market where you can buy & sell currencies against each other to make a profit. Let’s get a deeper understanding. Shall We?
How does the Forex market work?
The Forex market is a global market operating 24 hours and 5.5 days a week. It’s an online trading platform where traders from all over the world participate. It has no physical workspace, it’s connected through a series of trading terminals and computer networks. Any trader can trade in the forex market through a terminal called MetaTrader.
So, how do you trade in Forex and make profits?
In simple terms- we trade MONEY in the forex market. Specifically, currencies like USD, Japanese Yen, etc.
The price of any currency is a direct reflection of the market’s outlook on the present and future health of that economy. For example, You bought Japanese Yen at the current market price, so you are buying a share of the Japanese Economy. You think that the Japanese economy is doing good and will be even better in the future. After some time, you see that your prediction was right and the Yen price has moved up so when you sell those shares back. Thus, you made a profit from that trade.
“The exchange rate of one currency against the other is a reflection of that country’s economy compared to other economies.”
In a more real sense, you go to Japan for vacation and must exchange your US Dollars. So, you sold your 1 US Dollars for their 100 Japanese Yen. When you make this exchange, you participate in the forex market. You traded one currency (USD) against another (YEN).
You may have bought 100 Yen with 1 USD but if you check 3-4 days later you will see that the exchange rate has changed. It might be higher or lower than before. This continuous change in the exchange rates allows you to make money in the forex market.
In this example, we just described a small percentage of currency transactions happening in the real economy. The actual forex market size is $6.6 Trillion each day! 200x larger than any other stock exchange in the world.
So, as a retail forex trader, you will be trading in only 3-5% of that $6.6 Trillion Volume daily. So, don’t be overwhelmed by all these high numbers.
So, Who Trades in the Forex Market?
Financial institutions, investment banks, commercial banks, and retail investors worldwide participate in the market to trade large hedge funds or stocks and bonds. They usually trade in forex on behalf of their clients with huge capital. But, we are talking about retail trading. As you will be trading one currency against another, you won’t need a much trading balance to start trading in the online forex market.
Types of Forex Market
You can trade currencies in three different forex markets-
Spot Market:
The spot market is one of the largest exchange markets to trade currencies. These exchanges happen through a broker or a bank. If you want to start trading forex currencies, you will be trading in the spot market.
For example, in a typical spot retail transaction, we will see the current exchange rate of EUR/USD, quoted in our broker platform as 1.07624 ask price. Remember, these prices change in seconds.
If we want, we can buy at this quoted ask price with a click of a button. To buy or sell in the forex market, you will need a trading account with any forex-regulated broker. But, we will dive deep into that later in this course.
Currency Futures:
Futures market trading is where investors agree to buy or sell a fixed amount of a specific currency at a fixed exchange rate on a fixed date in the future. It is based on buying and selling a standard-size contract (larger than spot forex) and settlement date on public commodities markets.
Currency Forwards:
This is quite similar to futures markets but the contract between two parties involved is determined by the parties involved and not based on the public commodities market.
As mentioned earlier, forex trading (retail/spot trading) runs electronically. Traders can trade from anywhere, and anytime via the Internet. It does not have to begin and end based on the hours of a particular building or bank located in a particular time zone. Instead, it is 24-hour trading, 5.5 days a week, because there are always different banks operating and offering rates in different places and time zones around the world. Because of its massive liquidity and internet-based platform, fast-order execution and instant-fill confirmation are routine.
Why Should You Start Forex Trading?
Forex trading has several advantages if you are looking to make quick profits with low capital. However, let’s list down a few of them-
- Incredibly attractive market hours with the ability to trade around the clock. The time difference between US, EU, and Asia enables the forex market to be open 24 hours a day.
Trade Anywhere, Anytime! - The ability to profit in rising and falling markets.
- Flexible leverage and lot trading with low-margin requirements.
- The market has a low entrance fee. The highest daily trading volume, and over 100 currency pairings worldwide.
Is Forex Trading Profitable?
Yes. Forex trading is profitable. The forex market’s high liquidity, volatility, and flexibility of leverage can help you make profits. But, there will be risk and losses.
Making profits in forex trading is not guaranteed just like all other investments. To make a profit in the trading market, you will require proper knowledge of the market, strategy, and risk management. Any new trader should start small to minimize the potential losses while starting to trade forex.
This is what you learned today-
- Forex market is where you buy and sell currencies.
- We trade currencies against each other to make money in forex market.
- There are three different types of forex market.
- Advantages of trading forex
