Chapter 1: What Is Forex
The foreign exchange market (commonly known by the shortened abbreviations Forex or FX) is a worldwide market in which currencies are traded, hence, it’s sometimes also referred to as the currency market. The Forex market is in many ways very similar to other financial markets (like stocks and commodities) with a few very distinct differences.
- Transactions between market participants do not occur in one exchange trade office, but instead, transactions occur globally and directly between them. This is the reason why there is no true volume information available for the Forex market, there are so many places where currencies are traded thus it is not possible to identify the real volume that takes place.
- The Forex market is opened 24 hours per day during the working days of the week. It opens the week late Sunday and closes the week late Friday European time. The reason that 24-hour trading is possible is because it is a decentralized marketplace. If the banks in New York are closed, no problem, the banks in Sydney and Tokyo are open so you can trade with them.
All of us are in some way part of this huge currency market. Whether you are going to a vacation in another country, or you are buying something from abroad you are participating in this market because you need the other country’s currency. You can see from here how currency fluctuations can have important implications on the life of the general population. If the domestic currency loses value for example, then sooner or later imported products will become more expensive.
Big international companies also can have issues with currency fluctuations as they conduct a lot of business with partners from foreign lands. There are many famous cases where corporations lost billions because of currency fluctuations. To eliminate such risks, corporation hedge currencies in the futures market, which is a way to agree on a price for an asset ahead of time thus the spot price of the asset doesn’t matter. Mismanaging currency risks has the potential to bankrupt a business.
The foreign exchange market is the most liquid financial market in the world, a lot bigger than the stock or any other financial market. It is an attractive opportunity to profit for many investors. Some of the biggest participants in Forex market include:
- Central banks аim to provide a stable currency and economy. They have huge financial power as they are the masters of the money that circulate in the economy. They control the printing press for the currency and if the conditions require they can print as much money as they need.
- Retail banks are the marketplace for the Forex market, also called the interbank market. Transactions occur between them, they profit on the spread, but will also speculate when they spot an opportunity to make money.
- Investment companies like hedge funds and to some extend mutual funds also have huge capital under their disposal and as such can be big market drivers. Their only goal is the same as that of the retail trader, which is to make profits on price fluctuations. Hedge funds are also widely known as the most aggressive speculators in financial markets.
- Retail traders seldom are important market players in Forex, though a flood of small orders in the same price area can cause sharp moves on a currency pair.
To analyze financial markets there are two most famous ways and they are also used for Forex. Those are technical and fundamental analysis.
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Technical Analysts
look at charts of a currency pair and they only focus on the price and the formations on the chart that price has drawn. Through those so-called “price patterns”, the traders aim to determine his entry and exit levels for a trade.
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Fundamental Analysts
look at economic reports and other events that can impact the market like politics. In the case of currencies following the state of the economy of the currency’s country is the main task for fundamental traders. Major market moving reports for the Forex market include employment, GDP, inflation, PMI, retail sales, etc.