The Foreign Exchange market is the largest financial market in the world. In the US alone, it has a daily trading volumes of $1.2 trillion dollars, which outshines the stock, bond, and other commodity markets. But just what is currency trading or Forex trading, as it is more commonly known?
Forex trading is where you will buy one currency and sell another, or it may be a combination of a few different currencies in total. Your trading involves matching one currency against another. That is, you buy the Euro hoping it will rise against the U.S. Dollar. Which also means you hope the U.S. Dollar will fall against the value of the Euro. This does not mean you wish the U.S. Dollar bad tidings, it is just you are trading using economic information about the two currencies. You can do the same for the Swiss franc against the Japanese yen. Most people probably call this form of trading speculation. But consider that some individuals and groups make millions of dollars daily using the techniques available for trading in currencies.
You would usually do Forex trading using a margin. This means you leave a small deposit with your broker and can trade for many times the value of your deposit. For example, let’s say you want to open a trade matching two currencies, and you want to trade for $5,000. You can make a deposit of $50 with your broker, and stand to gain much more than the $50 after you close the trade. You benefit from not using your own money but earning a tidy profit. Of course, you could lose on the trade, but your losses, would be no more than your deposit if you took the necessary precaution to exit the trade once you reached your margin.
You still need a broker as you do in the other markets. With Forex, your broker will open an account for you to make your trades. Different brokers stipulate different amounts you should deposit to your account. Some ask for just $50 to open an account, but you wouldn’t trade much on such a small amount. Most brokers set margin at 3-5%, so if you want to open a trade for $10,000 you will need to have on deposit $300-$500. The great thing about Forex trading is that you do not pay a commission on your trades. But don’t cry for the market makers just yet. They manage to recover their expenses and profit on all your trades, by picking up the spread between the two currencies you trade. The spread is the difference between the bid and ask prices of the two currencies.
While you may look at Forex trading as pure speculation, you have to consider that to succeed you need to understand the nature of chance as it applies to the market. You may get up one morning to hear the U.S. Dollar dipped against the Euro because exports to Europe fell sharply for the third consecutive quarter. If you take this information without doing further research and decide to trade the Euro against the U.S. Dollar, you are speculating. However, you do not have any solid proof the dollar will continue to fall against the Euro. Successful traders don’t only digest the financial news, they also use other tools to decide how to trade.