Forex

Foreign exchange (aka forex) is an off-exchange retail foreign currency market where participants purchase currency in exchange for another (at the current exchange rate).

Compared to the measly $22.4 billion a day volume of the New York Stock Exchange, the foreign exchange market looks absolutely with its $5 TRILLION a day trade volume.

Forex And You

Forex can affect the lives of everyone, regardless if you don’t travel overseas or don’t invest in currency. Today’s world of commerce is such an international one that happenings on the other side of the world can ripple out to all nations.

China is a perfect example of this. The government in China regulates the exchange rate of their currency, and many believe the currency to be undervalued. An undervalued currency means Chinese goods are purchased for “less” on the international market. The Chinese government allows the market to dictate the exchange rate, and the effects would be felt across the globe, even for Americans who’ve never left America.

The reasons why an individual – or institution – would want to exchange money range for a myriad of different reasons, but the three main demographics include large corporations and institutions, speculators (investors) and tourists.

Tourists

A tourist travelling from the United States to Germany, for example, will need the local currency (EURO), as common shops, taxi cabs, etc., will most likely not accept US Dollars. Typically the airport, hotels and other tourist destinations will have services and the forex trading advisor exchanges just about any currency into the local tender.

Large Corporations And Institutions

A large portion of the global foreign exchange market consists of corporations and institutions, who often exchange currency for non-investment purposes: the need to meet payroll in other countries, pay for services from a foreign factory, mergers and acquisitions, etc.

Investors

Investors are attracted to the forex market because of its possibilities and advantages (which will be discussed in more detail in the 3rd email of this series). For example, investors enjoy the added liquidity and volume forex has to offer.

What is forex ?

History

The FOREX (Foreign Exchange) Market is a cash-bank market established in 1971 when the US went off the gold standard adopted in the 1930’s. At that time, the US had to drop the gold standard after the 1929 crash, and the British Pound became the currency of choice and the world’s currency.

There have been other times before in Western History gold was exchanged for paper money. Throughout most of the 19th century and up to the outbreak of WW1, the world was on so-called “Classical Gold Standard”, with all major countries participating in it. A gold standard meant that the local currency value is fixed at a set exchange to gold ounces (1 Troy ounce = 31.1 Grams)

Bretton

After WW II, the world needed a stable currency. In Bretton Woods, NH, the US reached a monetary agreement in July 1944 where seven hundred and thirty delegates from forty-four allied nations came together. The reason for the gathering was the United Nations Monetary and Financial Conference. For the first time in history, monetary relations amongst the world’s major industrial states were governed; implemented for the first time. The rules for commercial and financial relations were also negotiated and agreed. The dollar’s role was formalised under the Bretton Woods monetary agreement and other nations set official exchange rates against the Dollar. At the same time, the US agreed to exchange Dollars for gold at a fixed price on demand by central banks.

Collaspe Of Bretten Woods, Birth Of Forex

On 1971 Aug 15, after the collapse of Bretton Woods, abandoned the exchange rates pegged on the US dollar, and it gave birth to the floating exchange rate as forex into speculation.

Market Participants

The main participants in the Forex market are central banks, commercial banks, financial institutions, hedge funds, commercial companies and individual investors. The main reasons they participate in online Forex trading are Profit from fluctuations in currency pairs (speculating), Protection from fluctuating currency pairs derived from trading goods and services (Hedging). With technological development, the World Wide Web has become a great trading facilitator. It can provide individual investors and traders with access to all the latest Forex news, technology and tools.

Major Currencies

SymbolCountryCurrencyNickname
USDUnited StatesDollarBuck
EUREuro zone membersEuroFiber
JPYJapanYenYen
GBPGreat BritainPoundCable
CHFSwitzerlandFrancSwissy
AUDAustraliaDollarAussie
CADCanadaDollarLoonie
NZDNew ZealandDollarKiwi

Currency symbols always have three letters, where the first two letters identify the name of the country and the third letter identifies the name of that country’s currency also called as ISO CODE..

The currency pairs listed below are considered the "majors". These pairs all contain the U.S. dollar (USD) on one side and are the most frequently traded. The majors are the most liquid and widely traded currency pairs in the world.

PairCountriesCommon
EUR/USDEuro zone / United States"euro dollar"
USD /JPYUnited States / Japan"dollar yen"
GBP/USDUnited Kingdom / United States"pound dollar"
USD/CHFUnited States/ Switzerland"dollar swissy"
USD/CADAustralia / United States"dollar loonie"
AUD/USDAustralia / United States"aussie dollar"
NZD/USDNew Zealand / United States"kiwi dollar"

Forex Market Players

Online Forex trading platform is a Decentralized market with Interbank quotes. It means that it is decentralised. It, self-regulated market with no central exchange or clearing house, unlike stocks and futures markets. This structure eliminates fees for exchange and clearing, thereby reducing transaction costs.

The Interbank Market

The interbank market designates Forex transactions that occur between central banks, commercial banks and financial institutions.

Central Banks – National central banks (such as the US Fed and the ECB) play an important role in the Forex market. As principal monetary authority, their role consists in achieving price stability and economic growth. To do so, they regulate the entire money supply in the economy by setting interest rates and reserve requirements. They also manage the country’s foreign exchange reserves that they can use to influence market conditions and exchange rates.

Commercial Banks – Commercial banks (such as Deutsche Bank and Barclays) provide liquidity to the Forex market due to the trading volume they handle every day. Some of this trading represents foreign currency conversions on behalf of customers’ needs, while some are carried out by the banks’ proprietary trading desk for speculative purposes.

Financial Institutions-Financial institutions such as money managers, investment funds, pension funds, and brokerage companies trade foreign currencies as part of their obligations to seek the best investment opportunities for their clients. For example, an international equity portfolio manager will trade currency to buy and sell foreign stocks.

The Retail Market

The retail market designates transactions made by smaller speculators and investors. These transactions are executed through Forex brokers who act as mediators between the retail and interbank markets. The participants of the retail market are hedge funds, corporations and individuals.

Hedge Funds – Hedge funds are private investment funds that speculate in various assets classes using leverage. Macro Hedge Funds pursue trading opportunities in the Forex Market. After conducting a macroeconomic analysis that reviews the challenges affecting a country and its currency, they design and execute trades. Due to their large amounts of liquidity and aggressive strategies, they are a major contributor to the dynamic of the Forex Market.

Corporations – They represent the companies that are engaged in import/export activities with foreign counterparts. Their primary business requires them to purchase and sell foreign currencies in exchange for goods, exposing them to currency risks. Through the Forex market, they convert currencies and hedge themselves against future fluctuations.

Individuals – Individual traders or investors trade Forex for their purposes to profit from speculation on future exchange rates. They mainly operate through Forex platforms that offer tight spreads, immediate execution and highly leveraged margin accounts.