The foreign exchange market is the largest investment market in the world. Currency trading or Forex Trading has become extremely popular over the last several years and the numbers are consistently increasing. The Currency market involves countries all over the world so currency can be traded almost 24 hours a day and there is a very short weekend.
The majority of currency trades are not done by people, international banks, businesses and the national banks of particular countries are responsible for the majority of the trading in this market. Retail trading is gaining a larger market share as more people get involved.
When you trade currency, it has to be done in pairs because you are purchasing one type of currency with another type. This is very different from the Stock Market. Prices are calculated to the fourth decimal point and the difference between currency prices at that level are called Pips. A pip is equal to 1/100 of 1%. Currency is traded in lots. These lots vary in size from 1,000 units to 100,000 units. When a less experienced trader starts out, it is recommended to use micro lots, of 1,000 units because then the amounts risked are smaller which is better for learning the ropes.
There are 18 widely traded pairs, and there are 8 most popular currencies that are traded in different combinations. Since the options are more limited than other investment markets, it makes managing a portfolio easier.
These are the most commonly traded pairs. They make up 85% of the Forex Market.
USD/CAD: Canadian dollar
USD/CHF: Swiss franc
All currency pairs have a bid and an ask price. The bid is lower than the ask. This is where the broker makes money. They will buy at the bid price and sell at the ask price, for the trader it works in the reverse. Traders pay the ask price and receive the bid price.
It is common to trade in the Currency Market on a margin. This is a percentage of the purchase price because most trades take place with borrowed money allowing traders to take advantage of liquidity.
The currency market fluctuates based on several different factors. Inflation, geopolitical events, natural disaster, and industrial production all affect to currency market and will influence your activity
A basic rule of thumb for Forex Trading is that you should never trade with money you cannot afford to lose. There are big risks involved with currency trading, and the more you need the money you are trading with, the less sensible your trading behaviour will be.
Currency Trading requires a great amount of research, learning, strategic planning and discipline to stick to that strategy. There are many different strategies, types of trading, and methods of trading. Before a person gets involved in the Forex Market, they should assess their goals, risk tolerance, time available for trading and personality. These factors will help determine which type of trading and which strategy will be best.
Need more details? Check out: Top 7 Questions about Currency Trading from Investopedia.