Foreign Currency Trading – Learn the Basics

We are delighted to welcome you to Alvexo’s Foreign Currency Trading 101. This is the first of many courses expressly designed to teach you how to trade Foreign Currency. The upside potential of the Foreign Currency ("Forex") market is huge for investors across the spectrum. Whether you are a newbie or a professional trader, there is always something to be gained from our Foreign Currency courses. We will go into detail about how the Forex market operates, and what you should know about trading Foreign Currency online.

Once you have completed our series of Foreign Currency courses, you will have gained a sound understanding of precisely how the Foreign Currency market mechanisms operate. With that knowledge, you will be able to confidently trade Foreign Currency online, exploring the endless opportunities available in the currency markets, and applying traditional theory to practical trading situations.

Foreign Currency trading - The most heavily traded market in the world

We know that it can be a little overwhelming when you hear all the financial jargon associated with Foreign Currency trading. Terms like FX, Foreign Currency, currency pairs, currency trading, FX markets and others essentially all refer to the same thing. You are trading currencies – buying one currency and selling another currency in the same pair.

Did you know that the currency market is the biggest, most liquid marketplace in the world? The average daily trading volume exceeds US$4 trillion. No other financial assets even come close.

Everyone at every level of society participates in the currency markets every day. Whenever you make a purchase, transact on-line or travel abroad, you are interacting with the Foreign Currency market mechanism.

Every action involving goods and services impacts the global currency markets. The fact that there is so much liquidity in the currency trading arena means that you will rarely be left with a hanging trade. Currencies are readily bought and sold all the time.

Many players have entered the lucrative currency trading arena, including institutional investors, banks, governments, and everyday people. The Federal Reserve Bank, the European Central Bank (ECB) and the Bank of England (BoE) are among many institutions that engage in foreign exchange transactions vis-a-vis monetary policy.

At the opposite end of the spectrum, speculators and high net-worth traders are in it for generating huge profits.

The Foreign Currency trading market never sleeps

While the foreign exchange market is not quite a 24/7 market, it runs Monday through Friday around the clock.. The main financial centres for currency transactions include London, New York, Hong Kong, Tokyo, Sydney, Zurich, Frankfurt and Singapore.

The currency market is a decentralized market, and trading is via the interbank market. Anyone can transact from anywhere via the Internet. Equities, on the other hand, can only be traded at traditional exchanges, like the New York Stock Exchange, the London Stock Exchange, the Johannesburg Stock Exchange, etc.

Owing to the decentralized nature of the Foreign Currency market, banks quote cross-currency rates that will differ from other bank rates. At Alvexo we offer Foreign Currency traders live currency feeds from big banks.

A quick history of  trading Foreign Currency

The Gold Standard was established by major world powers in 1876. The rationale behind the Gold Standard was to back currencies (coins and paper) with an equal value in gold. Gold is still widely considered a store of value.

While the Gold Standard remained in effect as an exchange medium for quite some time,  it ultimately lost favour owing to the cyclical peaks and troughs associated with the precious metal. When World War II broke out, major European countries did not have sufficient gold reserves to back up the fiat currencies they were printing to support the war effort.

Just before the end of World War II, at the Bretton Woods conference in 1944, it was decided that the Gold Standard would only be applicable to the US Dollar. This solidified the dollar as the world's reserve currency.

By 1971, the US had announced that the Bretton Woods system would cease and gold would no longer be exchanged for US dollars. Soon thereafter, the idea of floating exchange rates gained ground over fixed exchange rates (it should be noted that gold largely retains its appeal as a store of value, especially during times of economic uncertainty, unrest and stock market volatility).

In the mid-1970s the floating exchange rate system spurred Foreign Exchange trading, but it was not until the advent of the internet boom in the 1990s that this phenomenon truly took off.

What is Foreign Currency Trading All About?

At its heart, Foreign Currency trading is about speculation regarding which currencies will rise and which will fall. If you believe that the euro is going to decrease in value against the dollar, you would sell euros and buy dollars.

You would ideally like to close the position at a price point that is lower, in order to generate a profit. Conversely, if the euro is expected to increase in value against the dollar, you would buy euros and sell dollars. You will make money if your prediction is correct.

The major currencies in the foreign exchange trading arena include the following:

1. The Euro – EUR
2. The US Dollar – USD
3. The Swiss Franc – CHF
4. The Japanese Yen – JPY
5. The British Pound – GBP
6. The Canadian Dollar – CAD
7. The Australian Dollar – AUD

In terms of trading volume and liquidity, the most heavily-traded currency pairs include the EURUSD, GBPUSD, USDJPY, USDCHF, AUDUSD, and USDCAD.

The currency markets are affected by myriad factors, including geopolitical, economic, social and others. Remember that the markets are interconnected at all times, and seemingly isolated shocks can have repercussions throughout the Foreign Currency arena.

It is especially important that traders follow the news and events in economic calendars. These include Central Bank announcements, key economic indicators, geopolitical events, and policy decisions.

Why is trading Foreign Currency so popular?

The comfort, convenience and cost effectiveness of trading currency pairs online far outstrips those of traditional forms of trading. Provided you have access to the internet and you are trading with a reputable broker, the sky is the limit.

Traders quickly learn that Foreign Currency trading is not without its risks and is inherently challenging. However, with the right education, the right attitude and the right amount of discipline, success is possible.

During times of high volatility, currency traders can use leverage to make substantial profits. By the same token, high volatility and leverage can lead to dramatic losses. Volatility describes the swings in relative currency prices owing to uncertainty in the markets.

When currency pairs are volatile, there is substantial opportunity for both profits and losses. Stable currency pairs do not present traders with as many tradable opportunities, since there is limited fluctuation in their prices.

Leverage allows you to put very little money down and take out a position that is substantially larger than the money you have. You are welcome to take a look at our Foreign Currency trading terminology article for more on leverage.

How to be a successful Foreign Currency trader ?

Knowledge is power – do your research before you trade with real money. Know which currency pairs you want to trade and study them.

Exercise restraint at all times: do not overcapitalize your positions, do not over-commit, and do not make rash, emotionally-based trading decisions. It is ill-advised to chase your losses – instead, wait for another potential opportunity to present itself.

Remember that strategy and intuition trump all else. Stick to your guns and wait for the market to move in the direction you believe it will go.

Having said that, success in Foreign Currency trading is also a long-term commitment. Your Foreign Currency trading strategies should be flexible and adaptive, and you are always encouraged to formulate a workable plan with a long-term strategic approach.

At times you will need to change course to dovetail with what the market is doing. Never be too rigid when it comes to the Foreign Currency market – anything can happen at any time.

Overnight success in currency trading is a pipe-dream; rather, focus your energy on developing a long-term strategy for success in the Foreign Currency arena.

Who trades Foreign Currency and why?

There are many key players in the Foreign Currency markets. These include central banks, governments, banks, businesses, hedge funds, investment corporations, and retail traders.

Central banks and governments trade Foreign Currency

• Market stabilization is a core responsibility of Central Banks and governments, and they achieve this by using their Foreign Currency reserves. However, by involving themselves in the Foreign Currency markets, Central Banks and Governments can orchestrate currency appreciation/depreciation vis-a-vis money supply, influence inflation rates and interest rates etc.
• Central Banks have a responsibility to determine monetary policies for countries by using exchange rates and other tools to influence inflation, employment and, in some cases, currency rates. Fiscal policy is determined by the government and includes budgeting, taxation and also investment measures. Monetary policy and fiscal policy do broadly impact exchange rates, and these institutions sometimes choose to intervene in foreign exchange markets to influence the value of the local currency.
• To avoid the devastating effects of currency speculation, Central Banks utilize monetary policy measures.

Banks trade Foreign Currency

• Hedging investment portfolios.
• Banks facilitate the exchange of currency between clients.
• Banks generate profits through speculation in foreign exchange markets.

The private sector trade Foreign Currency

• Big businesses and small businesses are actively engaged in Foreign Currency transactions for buying and selling goods and services from other countries.
• Businesses hedge their foreign-based assets, such as customer receivables, with foreign exchange transactions.

Investment companies & hedge funds trade Foreign Currency

• These entities are largely involved in speculation in the currency markets. They seek to profit from changes in exchange rates..

Everyday Foreign Currency Traders

• Retail Foreign Currency traders, like yourself, participate in foreign exchange trading for the purposes of financial gain.
• These types of traders open brokerage accounts to buy and sell currency pairs in the currency markets.

Ready to practice your trading skills? Open a risk free Demo trading account.