The global foreign exchange (“Forex”) market is considered to be the world’s most traded market (approximately $5 trillion per day) and has recently gained in popularity as an asset class. Forex trading provides investors with an alternative to more traditional investment vehicles such as the equity and real estate markets.
Profits are created in Forex by selling a currency at a higher price than at which it was purchased. Currencies trade in pairs, which means the price, or exchange rate, expresses the value of one currency in terms of another. For example, the USD/EUR value represents the value of one euro in dollars.
If you believe the dollar is going to increase in value or appreciate, you would buy or go long the dollar. Conversely, if you thought the dollar will depreciate, you would sell it or take a short position.
Exchange rates move in small increments called percentage in points or pips, with one pip representing one-hundredth of one percentage point (0.0001). While the price changes are small, they can represent significant changes depending on the size of the contract traded and the leverage deployed.
Since profits are produced by exchange rate fluctuations, the goal is to anticipate whether a currency is likely to appreciate or depreciate. The major factors that impact exchange rates are:
- Economic indicators including money supply, inflation rates, unemployment rates and interest rates
- Geopolitical conditions including international relations between countries
- Market psychology or sentiment
Pros and Cons
The benefits of Forex trading are summarized as follows:
- Highly liquid marketplace that ensures ease of getting in and out of positions
- Choice of various major currency pairs to trade
- Flexible trading hours (the market is open 24 hours per day)
- Access to high leverage (50:1 and greater)
- Ease of trading on-line with several top currency brokers
- Low start up capital required
The risks to Forex trading are:
– Volatility in the market can lead to big losses, especially if using high leverage
– Poor money management and unrealistic expectations for gains
The Forex market can prove to be a lucrative option for investing your capital. However, traders must respect the risks in the markets, and consider paper trading before investing their money. A perfect place to start is to explore and select from among the top currency brokers on the Web.