The Foreign Currency
Exchange
A Brief Background about Forex
Trading
Foreign Currency Exchange (Forex) Trading allows an
investor to participate in profitable fluctuations of
world currencies. Forex trading works by selecting pairs
of currencies and then measuring profit or loss by the
fluctuations of one one currency's market activity compared
to the other. For example, fluctuations in the value
of the $ U.S. Dollar are measured against another world
currency such as the £ British Pound, € Eurodollar,
¥ Japanese Yen etc. Being able to discern price
trends in market activity is the essence of all profitable
trading and this is what makes foreign currencies so
exciting, currencies are the world's 'best trending'
market. This gives Forex investors a profit making edge
that is unavailable in most other markets.
Forex Trading is being called 'today's exciting new
investment opportunity for the savvy investor'. The
reason is that the Forex Trading Market only began to
emerge in 1978, when worldwide currencies were allowed
to 'float' according to supply and demand, 7 years after
the Gold Standard was abandoned. Up until 1995 Forex
Trading was only available to banks and large multinational
corporations but today, thanks to the proliferation
of the computer and a new era of internet-based communication
technologies, this highly profitable market is open
to everyone. The Forex Trading Market's growth has been
unprecedented, explosive, and continues to be unequaled
by any other trading market.
Unlike traditional trading which brings buyers and
sellers together in a central location (trading floors)
in Forex Trading there is no need for a centralized
location. Forex is a market where worldwide traders
conduct business by high-speed Internet connections
with the Interbank Foreign Currency Exchange via Forex
Clearinghouses (also called Forex Brokerage Firms).
Forex has not only become the fastest growing trading
market, but also the most profitable trading marketplace
in the world.
Simply stated, Forex is the most profitable because
it is the world's largest marketplace. The Foreign Currency
market as a whole accounts for over 1.2 trillion dollars
of trading per day (as determined by the fourth Central
Bank Survey of Foreign Exchange and Derivatives Market
Activity, 1998. This figure is understood to be significantly
higher today). To put this into perspective, on any
given day the Foreign Currency Exchange Market activity
is vastly greater than the Stock Market. It is 75 times
greater than the New York Stock Exchange where the average
total daily value (using 1998 figures) of both foreign
and domestic stocks is $16 billion, and much greater
than the daily activity on the London Stock Exchange,
with $11 billion.
Furthermore, in addition to being the world's largest
and most profitable market, The Foreign Currency Exchange
Market is the world's most powerful and persistent trading
market regardless of negative economic indicators. This
is because currencies 'trend' better than every other
market due to their macro-economic nature. Unlike many
commodities whose supply and demand fundamentals can
literally change overnight (as we found in the sudden
dot com 'market adjustment' and even more abruptly on
September 11, 2001), currency fundamentals are much
less random, and far more predictable. This is well
illustrated in the way interest rates are changed gradually
and only in small increments.
Other examples of fundamental predictability are illustrated
by the following statistics. Of the $1.2 trillion day
trading in Foreign Currency Exchange, 83% of spot foreign
exchange activity and 95% of swap activity involves
US Dollars. The Euro is the second most active currency
at 37%. The Japanese Yen (24%) and the British Pound
Sterling (10%) are ranked third and fourth. The Swiss
Franc is 7%, and the Canadian and Australian Dollars
account for 3%.
Spot Forex is the type of forex trade in which self-traders
concentrate most of their investment activity for reasons
that are self-explanatory. By definition, a Spot Forex
transaction is a currency trade transaction that has
a settlement (liquidation) within a maximum of 2 working
days following the closing of the trade. Therefore Spot
Forex allows the self-trader high liquidity. Another
popular feature for well-advised Spot Forex self-traders
is the strong profit potential from continual market
fluctuations by buying a specific currency when it is
weaker and selling it when it is stronger, and the continual
pairing of strong currencies against weak ones. This
potential for profit or loss is amplified by the effect
of leverage. Leverage is a term that describes what
can be achieved when a smaller amount of money controls
a much larger amount of money. With regards to Forex
Trading for example, a leverage-factor of 100 can allow
the trader to hold a 100,000 US Dollar position with
a modest 1,000 US Dollar margin deposit. Online Forex
day trading focuses its investment activity largely
on Spot Forex because of the 'risk manageability' of
in-and-out trading plus the potential to generate excellent
and highly liquid profits.
"Few financial industries generate as much excitement
and profit as currency exchange. Traders around the
world enter trades for weeks, days or split seconds,
generating explosive moves or steady flows, and money
changes hands quickly at a staggering daily average
of a trillion US dollars. Forex profitability is legendary.
George Soros of Quantum Fund realized a profit in excess
of 1 billion dollars for a couple of days work in September
1992. Hans Hufschmid of Soloman Brothers, Inc. netted
$28 million for 1993. Even by Wall Street standards,
these numbers are heartstoppers". *
Despite its high trading volume and its fundamental
role in the world, the Forex Market is rarely in the
media limelight because its method of trading transaction
is less visible than the Floor of a Stock Exchange.
However, trading on the Foreign Currency Exchange Market
is today surging into the public awareness, as flocks
of internet traders are attracted by the market's inherent
profitability and risk manageability. Add to this the
absence of geographic or temporal boundaries and vibrantly
active Forex market is open to all players.
* "Trading in the Global Currency Markets",
Cornelius Luca, 2000
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