What is forex trading and how does it work?

#OPINIONLEADER# #forexmarket#

What is Forex Trading?

The term Forex is a portmanteau word derived from Foreign Exchange and it is a commonly known investment instrument where traders can leverage on a certified platform to trade currency pairs.

When traders make a transaction order to buy the desired currency pair, the base currency will be bought while selling the quote currency simultaneously or vice-versa when selling a currency pair.

With the principle of currency pair there are several key parameters to understand before making any trades.

Each currency is represented in three-letter alphabetic code with the first 2 letters representing the region and the last letter indicating the currency.

Referencing to the EUR/USD currency pair, the base currency will always be positioned first, followed by the quote currency in a currency pair quotation.

As shown in the EUR/USD chart above, the rise and fall of the candlestick reflects how the base and quote currency interact with each other.

Understanding the principle of currency pairs, the next approach is to identify the 3 different sub-groups of currency pairs as listed in the following:

Major Currency Pairs

The first group is known as major currency pairs and it has the highest liquidity in the forex market. Major currency pairs are commonly listed on forex trading platforms and it contains some of the most popular pairs being traded which means the spread and brokerage fees are much lower.

It is no surprise that USD can be found in all currency pairs as it is the world’s leading reserve currency and it influences more than 80% of currency trades which makes the USD interesting.

Minor Currency Pairs

The second group is known as minor currency pairs or crossed currency pairs. Minor currency pairs do not contain USD but involves a major non-USD currency such as the EUR, GBP, YEN, CHF, AUD, NZD, and CAD.

Although minor currency pairs are still well-known amongst forex traders, there are lesser traders trading minor currency pairs which led to the spread and brokerage fee to be slightly higher than major currency pairs.

Exotic Currency Pairs

The last group is known as exotic currency pairs where it contains a major currency and the currency of a developing country.

Exotic currency pairs are often uncommon or some unheard of which means there are much lesser traders and lower volatility. Therefore, trading exotic currency pairs means incurring high spreads and brokerage fees.

Exotic currency pairs are often traded by long-term investors and/or businessman who has cross-border trades to buy or sell products for business developments.

How Does Forex Trading Work?

When forex traders execute a buy or sell on a currency pair, the banks or other certified organizations will receive and direct the transaction between the respective currency parties in an over-the-counter (OTC) market.

Unlike the stocks market, there are no centralized exchanges when trading forex and most transaction are spread across 4 major forex trading centres located in London, New York, Sydney and Tokyo over different time zones. With the overlaying of time zones, this allows forex market to be transacted across 24hrs period throughout the weekdays.

With the advancement of technology and increase in statistical data information gathered, forex trading has become much accessible to retail traders than ever before. Forex traders utilize the technological advantage to access and analyse the currency pairs chart based on fundamental, technical or both.

Forex traders may utilize past information to make a prediction based on their back tested and proven trading strategies to speculate the probability of making a profit based on the price movement in the market. Traders earn profit by buying low and selling high or vice-versa if the analysis concluded of the desired currency pairs is correct.