What is forex trading?
Forex trading refers to the process of swapping national currencies against each other for reasons like tourism, trade and commerce. The foreign exchange market is a globally-spread market where forex trading takes place.
Due to the global reach of trade and finance, forex trading is the largest and most liquid trading market globally. In the fx market, currencies are traded in pairs like the Euro/US Dollar.
Currencies are one of the essential assets for most people, no matter which country they are from in the world. Besides, currencies are necessary instruments to facilitate forex trade.
One interesting fact about forex trading is that it does not have a central place for trending. Instead, currencies are traded against each other in an electronic form; OTC – over the counter. This implies that all trade-related transactions take place via computers and nodes.
The market remains open for 24 hours per day and functions 5.5 days each week. In Forex Trading, major hotspot countries include New York, Tokyo, London, Hong Kong, Paris, Frankfurt, Zurich, and Sydney.
How forex trading started: History
Unlike stock trading that can be traced back to many decades, the concept of forex trading is relatively a new fruit in the tree. In the most rudimentary form, the exchange of currencies had existed for centuries and started when people started punching and stamping currencies out. But the concept of the forex market is fresh. The accord that was signed at Bretton Woods in 1971 gave way to free-drifting of most of the currencies. Since the value of different currencies wavers and fluctuates, there was a need for a systematic way of dealing with and exchanging them. This gave rise to the concept of forex trading.
Steps to forex trading
- Open the trading platform: The first step involves having a trading platform on which you will facilitate forex trading.
If you want to find an authentic trading platform for forex trading, we recommend you PrimeFin. It is a regulated financial service provider that functions in Norway, Denmark, Sweden, Netherlands (Dutch/English), Spain (Spanish). PrimeFin offers a wide range of instruments and assets to trade with that include stocks, indices, commodities, forex, and more.
- Charting: After opening the trading platform, now open the charts and select the currency pair you want to trade in. it can be any currency pair you are interested in like US Dollar/ Japanese Yen, or Euro/ US Dollar. After choosing the currency pair, now select a particular bandwidth of timeframe. The timeframe you choose will reflect the representation in your candlesticks. Now, the chart can show an uptrend or a downtrend.
- Addition of indicators: After the process of charting, it’s time to add technical indicators. Technical indicators are more beneficial in forex trading as they make the process of decision making easier.
- Placing the order: While placing the order in the forex market, you can “go short” or you can “go long”.
- Setting of stop-loss and gaining profits levels: This step is optional in forex trading, but we highly recommend it. Setting stop loss at less profit level can aid to long term achievement for traders and investors. Setting stop-loss can decrease your risks when the maker is not moving in a favourable direction. Setting the profit level will assure traders of the fact that the trade will exit a profit level before it goes downwards.
- Confirming the order: After locking your order, wait for the screen to pop up with the confirmation of your order. The confirmation and ticket digits of the order are crucially important. You don’t want anything going hay way with your trade, but it is always good to have some precautionary measures in case the trade is not executed correctly.
- The period of patience: This is one of the most challenging steps in the process of forex trading. After the confirmation of the order, many traders get anxious and continuously keep on checking how the market is moving. One way to avoid this is to get away from the market for some time.
- Completion of trade: The final step entails the completion of the trade. Not all transactions will reap your profits. The forex market entails a lot of risks. It is, therefore, essential to have measures to decrease the risks associated with your trade.
Hedging and forex trading
Since the forex market is prone to many risks due to changes in the price of various currencies, one can opt for hedging by fixing the price at which the trade will reach the end. This will help in the reduction of risks. For hedging currencies, the investor or trader can lock in the trade in the forward market, which will fixate the exchange rate of the trade.
Hedging in foreign exchange can also take place through futures contracts. The advantage of hedging through futures contracts is that they are authorised by central regulatory bodies, but they might be less liquid as compared to forward markets.
Speculation and forex trading
The volatility in the forex market due to political, economic factors, interest rates, changes in demand and supply, and tourism can be used by traders to make enormous profits in the forex market.
The factors mentioned above can lead to a reduction in the value of a currency against the other. If a currency is to go downwards, it means the other currency will see a rise in its value. This is because currencies get traded in a set of two in the fx market.
Trading currencies as assets
As an asset, currency can be traded in one of the two ways:
- Trading through the switch in exchange rates
- Trading through differences in interest rates between two currencies.
A trader can buy a currency with high-interest rates and sell the currency with a comparatively lower interest rate. This way, profits can be made by trading through the difference in interest rates of currencies.
Risks and challenges associated with forex trading
The foreign exchange market is highly volatile and affected by a lot of factors like political and economic changes in countries, interest rates, the flow of trade, etc. therefore, the foreign exchange market is subjected to a lot of risks and faces numerous challenges.
- First of all, the foreign exchange market is a decentralised market that operates through computers and nodes. Forex trade is not standardised, and in many countries, the foreign exchange market is entirely unregulated.
- In the forex market, a lot of small investors and traders trade through unregulated brokers which can sometimes cheat and trade against the trader.
- Forex trading requires a precise and sharp understanding of various indicators and fundamentals of foreign exchange. A forex trader must keep in mind the economic conditions of different countries and how they can affect her or his trade.
- Most of the time, high brokerage fees and commissions are associated with forex trading.
- The process of determining the prices in the forex market is rather challenging and complicated. The prices are affected and influenced by a multitude of factors in the forex market.
- The foreign exchange market offers high leverage to the traders. This means traders can trade in large sums with little money in their hands. High leverage brings higher risks for traders.
Advantages of forex trading
- The forex market offers high flexibility to investors and traders. There are significantly fewer rules and regulations, and the market works through a decentralised system. There is no limit set about how much currency is to be bought in the market—the foreign exchange market functions 24 hours a day.
- The individual trader and investor get full control over his or her trade. The trader is not manipulated by any forces to trade in the forex market. The final decision of how a trader wants to trade lies with him or her.
- A wide variety of options are available to importers, traders, investors, and exporters. There are a wide variety of instruments that can help facilitate Forex Trading, like stocks, exchange rates, futures, and options etc. Also, a vast pool of currencies can be traded against one another, giving a wide choice to traders.
- The foreign exchange market is highly liquid. The fx market consists of the largest number of traders and investors that participate in forex trading from across the globe. This leads to higher liquidity and an efficient pricing system.
When you take more immense risks in the forex market, you invite bigger risks and more significant profits. Traders must trade and exchange currencies keeping in mind the volatility that comes with forex trading. The decisions must also align with the financial goal of the trader or investor. Read our PrimeFin Review before you start trading.
Traders who are new in the foreign exchange market or have limited funds should opt for a day or swing trading. They can trade with minimal amounts with lesser risks. One can also open a demo account to practice Forex Trade before joining the game with other participants in the market. Those focusing on long term gains and success can indulge in carrying trade and reap good returns. Understanding the core concepts and fundamentals of the market can help traders to get a better catch in forex trading.