Forex, or foreign exchange, is a term for the market where investors can buy and sell currencies from around the world.
If you’ve ever traveled abroad or noticed that some magazines list prices in US and Canadian dollars, you’re probably familiar with the concept of exchange rates. Forex markets allow traders to exchange one currency for another. These exchange rates are not set in stone and are constantly changing as one currency increases in value and another decreases.
This gives speculators the opportunity to make money by converting a large sum of money into the currency they expect to appreciate in value. All they do is change one form of currency to another, but if and when that currency becomes more valuable, they can pocket the difference in profit. It’s not that different from buying a stock or bond at a lower price and selling it at a higher price for a profit, except in this case the asset is the currency.
Forex is global. While official Wall Street hours are 9:30 a.m. to 4:00 p.m. EST, the forex markets never sleep. Until the very recent advent of certain cryptocurrenciesglobal forex trading was the only continuous, uninterrupted market in the world.
Moreover, the foreign exchange markets do not depend on an individual sponsor who manages the operation, like the New York Stock Exchange. Currencies are rather exchanged”over the counter“based on an electronic network of banks, trading companies, currency brokers, large institutions and individual traders. This decentralized approach has some advantages, such as 24/7 trading hours, but also some disadvantages, as some information is not mandatory as it is in other assets where monitoring and trading is centralized.
Investors cannot think of investing in forex in terms of a single currency. Trading strategies include “pairs” where one currency is priced against another. The value of a single type of currency is irrelevant because, as the name suggests, the purpose of these trading platforms is to ultimately make an exchange from one currency to another.
This means that you are not just looking for one part of a trade, but two parts. For example, currency A may increase in value in general, but ultimately not make money on your forex trade because currency B increases in value even more.
forex investment is all about leverage where you invest at a real money multiplier that you put forward. After all, changes in the forex market are normally discussed in terms of “pips” – or, one-hundredth of one percent. This means that a change of one pip on a $10,000 investment only moves the value $1. Unless you have a huge amount of money involved in a forex investment, the pips just won’t add up.
This is why many platforms allow you to trade with leverage of up to 100 to 1 or even more under certain circumstances. This leverage of course carries significant risk, as you are effectively trading with borrowed money and can end up significantly in the hole if you are not careful.
An additional complication worth mentioning is that there is an active forward market for currencies as well as a “spot” market based on day-to-day price movements.
If you are unfamiliar with futures contracts, they are contractual agreements for one party to buy or sell a specific asset at a specific price and on a specific date in the future. Futures markets are common to many merchandise or financial instruments, partly because they have a real application for hedging price risk. And just as a farmer can use futures contracts to secure the right to sell maize at a favorable price regardless of market prices, multinational corporations can use currency futures to lock in an exchange rate for a currency.
Forex investors can speculate in the spot or futures markets. However, the added complexity of the futures markets requires research for any strategy. It’s hard enough to predict where currency prices will be tomorrow, let alone at some date in the distant future.
Forex markets are downright biblical in their time, appearing in ancient texts via mention of money changers who often had a bad reputation for overcharging people who wanted to exchange one coin for another. While modern markets are much more high-tech, the basic idea is the same, as investors try to be the middleman who makes quick money – or pound, euro or yen as the case may be.
Forex markets are incredibly “liquid“, with global forex transactions collectively averaging $5 trillion to $6 trillion in total assets per day. other sectors of the economy or on your investment portfolio.
As with any investment, it takes a combination of research and instinct. Most currencies move on general economic news such as inflation, unemployment, or ordinary politics. You need to know what is happening in the issuing country of a given currency and then do your best to make an informed bet on what will happen next.
All investments involve some degree of risk. But forex is particularly risky because of two unique factors: forex is over-the-counter and decentralized without as much oversight as other assets, and it involves leverage, which is effectively investing with borrowed money. . The rewards can be significant if you make the right choices, but the unique circumstances of the forex markets create real risks.