Why trade forex?

Trading forex

Over the last three decades, forex trading has become the world's largest financial market. With over $4 trillion traded daily, it is more than three times the aggregate amount of the US equity and treasury markets combined. The forex market is so liquid that there are always buyers and sellers to trade with.

Unlike other financial markets, the forex market has no physical location and no central exchange. It operates through a global network of banks, corporations and individuals trading one currency for another. The lack of a physical exchange enables the forex market to operate on a 24-hour basis, spanning from one zone to another in all the major financial centers.

24-hour trading

Why people trade forex? One of the biggest advantages of trading forex is the opportunity to trade 24 hours a day. Unlike other markets which close and prevent you from taking advantage of market moving news, with FX you can react instantly to world events and increase your ability to make profits.

No commissions

The fact that FX is usually traded without commissions makes it very attractive as an investment opportunity for investors who want to deal on a frequent basis.

Leverage/margin

The degree of leverage in trading financial products has been increasing over the years. Now the FX market has reached the point at which a trader can virtually trade with nothing down.

Why trade forex instead of stocks? Traditionally, if an investor wanted to buy stocks and shares, they had to provide the total amount of the funds required for the position.

This has slowly evolved to the point where investors can now put down a 10% deposit or margin and take a position equivalent to ten times that size in some markets. Now investors often only have to put down 2-3%, thus getting up to 50 times leverage.

This gives players the chance to make bigger returns as the positions they can hold in the market are much larger. Conversely however, the risks are greater too.

Profit potential in falling markets

Why Trade currencies? Since the market is always moving, there are always trading opportunities, whether a currency is strengthening or weakening in relation to another currency.

Furthermore a trader has the ability to sell short a currency with the expectation that it will weaken versus another and buy it back more cheaply later, making a profit should that be the case.

What drives the forex market ?

Currency prices are affected by a variety of economic and political conditions, but probably the most important are interest rates, inflation and political stability.

Sometimes governments actually participate in the forex market to influence the value of their currencies, either by flooding the market with their domestic currency in an attempt to lower the price, or, conversely, buying in order to raise the price.

This is known as Central Bank intervention. Any of these factors, as well as large market orders, can cause high volatility in currency prices. However, the size and volume of the forex market makes it impossible for any one entity to "drive" the market for any length of time.

Who are the participants in the forex markets ?

The reason that the forex market is referred to as an 'Interbank' market is due to the fact that historically it has been dominated by banks, including central banks, commercial banks and investment banks.

However, the percentage of other market participants is rapidly growing and now includes large multinational corporations, global money managers, registered dealers, international money brokers, futures and options traders and private speculators.

A brief history of forex

The Breton Woods Agreement was initiated in 1944 in an effort to keep cash from draining out of war-ravaged Europe. Currency values were pegged to the US dollar, which was then pegged to the price of gold.

The modern era of foreign exchange first emerged in 1971 with the collapse of the Bretton Woods Agreement. The US dollar was no longer convertible into gold, signaling an increase in currency market volatility and trading opportunities.

The collapse in 1973 of the subsequent Smithsonian and European Joint Float agreements signaled the true beginning of the free-floating currency exchange system that drives the markets today. Starting in the 1980's, computer technology extended the reach of the exchange marketplace.

Today, the values of the major world currencies are independent of each other, with intervention available to the states only through the central banking system.