Trading Forex Currencies Guide for Newbies
The Forex market is termed as being the largest financial market globally. It is even more significant than a stock market, having a volume of about 6.6 trillion dollars daily. Forex can be explained as being a network of sellers and buyers transferring currency amongst each other. As such, it’s the means through which central banks, companies, and individuals convert currencies. So, if you have ever gone to a different country, the chances are that you made a foreign transaction.
While there is forex that’s done for practical reasons, most currency conversion happens with the intent of making a profit. The currencies that are converted daily cause the volatility of other currencies. This volatility is what makes forex appealing to traders. It comes with a high chance of making a profit and its fair share of risks.
Currency markets and how they work
Unlike commodities or shares, forex trading directly takes place between two traders. It could also be considered to be an OTC (over the counter) market. The market is operated by different banks from all over the world spread across the major trading centers. They include Tokyo, Sydney, New York, and London. Since there isn’t a given central location, traders can trade day and night.
The forex market can be divided into three different types:
- Future: Here, there is a contract agreeing to sell and buy given currencies at specific prices and a set date in the future. These contracts are also legally binding.
- Forward: Here, a contract is agreed upon to sell and buy some currencies, and the buying price is set. This is to be settled at a given future date or within several dates specified in the future.
- Spot: This is the physical exchange of a pair of currencies. It takes place at the point where that trade is settled (on the spot). It can also take place within a short time.
Quote and Base currency.
A quote currency is the second currency listed in forex pairs, and a base currency is the first currency. Forex trading entails the selling of a currency to purchase another currency. This is the reason why it’s quoted in pairs. A forex pair price means the amount a base currency unit is in a quoted currency.
Three-letter codes represent each currency in a pair. The code contains two letters representing the region, and the last letter represents the currency. For example, USD means US (United States), and the ‘D’ is the dollar. So, a USD/GBP currency pair involves buying the US dollar and selling the Great British pound.
How pairs are categorized
To maintain order, providers will be seen splitting pairs into these categories:
- Regional pairs: These are pairs classified by their regions. For example, Australasia or Scandinavia include NZD/AUD (New Zealand dollar vs. Australian dollar), NOK/EUR (Norwegian Krona vs. Euro), etc.
- Exotics: This refers to a major currency being paired against an emerging economy. For example, GBP/PLN (Great Britain pound vs. Polish zloty), USD/MXN (US dollar vs. Mexican peso).
- Minor pairs: This refers to the currencies that are traded less frequently. They are usually major currencies against other major currencies. For example, GBP/JPY (Great Britain pound vs. Japanese Yen), EUR/CHF (Euro vs. Swiss Franc), EUR.GBP (Euro vs. Great Britain pound).
- Major pairs: This refers to several currencies that make up, up to 80% of forex trading worldwide. They include AUD/USD, USD/CAD, USD/CHF, GBP/USD, USD/JPY, EUR/USD.
Forces driving the Foreign Exchange market
As earlier stated, many currencies from all other the world make up the forex market. This makes predicting exchange rates difficult because many different factors can affect price movement.
Even so, just like many financial markets, forex is driven by the supply and demand forces. The influences driving forex price fluctuations include;
- Central banks: They control supply and have the power to announce measures that significantly affect a currency’s price, e.g., quantitative easing.
- News reports: Positive reporting about a region attracts investors, thus increasing that region’s currency demand.
- Market sentiment: This plays hand-in-hand with the news. Makin traders believe that a market is heading in a specific direction could decrease or increase demand.
- Economic data: This gives an insight into an economy’s performance and what the central bank will do, making prediction easier for traders.
There are many different ways of trading forex, but they’ll all work similarly, i.e., the simultaneous purchase of a currency as you sell another. All you need to do is determine if you want to utilize the services of a forex broker or use derivatives such as CFD trading.