Forex («FX», or Foreign Exchange market)
is an over-the-countercurrency market which trades in currencies
of various countries (exchange rates). The forex market is unique in terms
of trading volume, liquidity, and the large number of factors which can affect
market conditions. The forex market is geographically dispersed, with no unified
market or central clearing venue. It comprises a huge quantity of buyers and
sellers, the key ones being commercial banks, investment funds, financial
companies, and governments.
Due to the development of margin trading and innovations
in telecommunications (especially the Internet), individuals are now able
to profit from exchange rate movements between different currencies. The main
concept of margin trading is actually rather simple: the fundamental point
is that, using leverage, you can trade amounts that greatly exceed your existing
funds. For example, to make a transaction for EUR 100,000, a trader does not
need to have that amount on his or her account. Depending on the degree
of leverage, it is enough to use a sum which amounts to only 0.5% of the
transaction figure.
Margin trading can be exemplified thus:
In the Forex market, trading is conducted on the difference between a ‘pair’
of currencies. Currency pair quotes show how much secondary currency can
be bought or sold for base currency. Base currency is the first named currency
in a pair. For example, in the currency pair EUR/USD, the base currency is euro.
Currency pairs are traded in ‘standard lots’ which generally total 100,000 units
of base currency. There are also so-called ‘mini lots’ that make
up 10,000 units. To buy one lot per pair EUR/USD, taking into account a market
quote of 1.5000, will require only EUR 1,500 or USD 2,250, although the total
transaction amount is as high as EUR 100,000.
It should also be stressed that you can make a profit on both the rise and
fall of currency rates. In forex it is common for beginner traders to wonder how
it is possible to sell euro if there are only US dollars on your account. The
answer is that, in making a transaction to sell the currency pair EUR/USD,
a trader does not actually conduct a sale but rather, according to the
principles of ‘margin’ and ‘full netting’, speculates on a fall in the rate
of this currency pair. In order to carry out such a deal, you require an amount
of collateral which is determined by the extent of leverage. Instead
of an actual exchange of one currency for another, an opposite transaction
to the initial (position closing) one occurs, after allowing for profit or loss
from the first transaction. The other key concept of margin trading is the
obligation to conduct a counter transaction. This procedure is not limited
in time, and a trader can conduct such a transaction the same day or even
several years later.
One advantage unique to the Forex market is that
it operates on a 24-hour basis, with no intervals or stops, and
does not cease operating in the event of extreme volatility, as, for example,
is the case with stock exchanges and commodity markets.
