INTRODUCTION_ECONOMICS_TRADING FOREX_CHARTING_RISK MANAGEMENT _GLOSSARY


INTRODUCTION

FX or forex or foreign exchange are some of the common words used to explain the global market for trading currencies, which is the biggest market in the world, in terms of volume.  Almost everyone has taken part in a foreign exchange trading transaction without noticing. For example, a businessman is changing pounds to Euros in order to cover expenses for a seminar in Berlin, or a family changing Euros to dollars in order to pay University fees for their son who is studying in USA.

The main trading places of the fx industry are London and New York, with Singapore, Tokyo and Hong Kong filling the puzzle of the markets 75% daily volume. Dominant position in this market is held by banks and big institutions, but the retail market is growing in a very rapid pace during the last decade. Currency trading happens continuously throughout the day; as the Asian trading session ends, the European session begins, followed by the North American session and then back to the Asian session, excluding weekends.

  • By far the biggest financial market in the world
  • The FX is by far the most transparent and liquid market, with the daily turnover now exceeding $5 trillion every day according to Bank for International Settlements.
  • Closed only during the weekend. Forex trading is operating normally 24 Hours a day, 5 days a week. The markets are always moving, offering great opportunities to profit whenever the trader wishes.
  • Ability to use leverage to increase trading positions and also to hedge trading positions
  • Ability to trade from anywhere in the world
  • Low margins of relative profit compared with other markets
Based on the Triennial Central Bank Survey for the foreign exchange market in 2013 by BIS, we can derive some very interesting results about the largest market in the world.

Total Trading Volume: The FX is by far the most transparent and liquid market, with the daily turnover now exceeding $5 trillion every day according to Bank for International Settlements. As we can see below, the industry is growing very quickly with more than 65% in the last 6 years.

By currency: The reason behind the USD dominance in the fx market can be easily explained in the chart below. US Dollar is involved, directly or indirectly in the 87% of the daily transactions in the currency market. The second most traded currency is euro which accounts for the 33% of the trading volume. The Japanese yen is in the third place with 23% of the daily transactions, with the latest actions of BoJ playing a significant role in this rise above sterling.

By currency pair: In the previous chart we saw the metrics of the most traded currencies. In essence it’s easy to understand the most traded currency pairs in the fx market:

  • EUR/USD 24,1%
  • USD/JPY  18,3%
  • GBP/USD   8,8%
  • AUD/USD   6,8%

By Country: Many of the traders think that New York is the ‘heart’ of the fx industry. As you can see in the chart below, London accounts for the 42% of the daily turnover, while NY is around 19%. The other 3 big markets are Singapore, Japan and Hong Kong.

Forex, or FX, is a shortened term that describes the Foreign Exchange Market, a marketplace where the world's various currencies are traded. It is an interbank market which was created in 1971 when international trade transitioned from fixed to floating exchange rates. As a result of its incredible volume and fluidity, the FX market has become the largest and most significant financial market in the world.
The main participants in the Forex market are: central banks, commercial banks, financial institutions, hedge funds, commercial companies and individual investors. The main reasons they participate in the Forex market are:

  1. Profit from fluctuations in currency pairs (speculating)
  2. Protection from fluctuating currency pairs which is derived from trading goods and services (Hedging).

With technological development, the internet has become a great trading facilitator, as it can provide individual investors and traders with access to all the latest Forex news, technology and tools.

The Forex market is an international over-the-counter market (OTC). It means that it is a decentralized, self-regulated market with no central exchange or clearing house, unlike stocks and futures markets. This structure eliminates fees for exchange and clearing, thereby reducing transaction costs. The Forex OTC market is formed by different participants – with varying needs and interests – that trade directly with each other. These participants can be divided in two groups: the interbank market and the retail market.

The Interbank Market: The interbank market designates Forex transactions that occur between central banks, commercial banks and financial institutions.

Central Banks: National central banks (such as the US Fed and the ECB) play an important role in the Forex market. As principal monetary authority, their role consists in achieving price stability and economic growth. To do so, they regulate the entire money supply in the economy by setting interest rates and reserve requirements. They also manage the country's foreign exchange reserves that they can use in order to influence market conditions and exchange rates.

Commercial Banks: Commercial banks (such as Deutsche Bank and Barclays) provide liquidity to the Forex market due to the trading volume they handle every day. Some of this trading represents foreign currency conversions on behalf of customers' needs while some is carried out by the banks' proprietary trading desk for speculative purpose.

Financial Institutions: Financial institutions such as money managers, investment funds, pension funds and brokerage companies trade foreign currencies as part of their obligations to seek the best investment opportunities for their clients. For example, a manager of an international equity portfolio will have to engage in currency trading in order to buy and sell foreign stocks.

The Retail Market: The retail market designates transactions made by smaller speculators and investors. These transactions are executed through Forex brokers who act as a mediator between the retail market and the interbank market. The participants of the retail market are hedge funds, corporations and individuals.

Hedge Funds: Hedge funds are private investment funds that speculate in various assets classes using leverage. Macro Hedge Funds pursue trading opportunities in the Forex Market. They design and execute trades after conducting a macroeconomic analysis that reviews the challenges affecting a country and its currency. Due to their large amounts of liquidity and their aggressive strategies, they are a major contributor to the dynamic of Forex Market.

Corporations: They represent the companies that are engaged in import/export activities with foreign counterparts. Their primary business requires them to purchase and sell foreign currencies in exchange for goods, exposing them to currency risks. Through the Forex market, they convert currencies and hedge themselves against future fluctuations.

Individuals: Individual traders or investors trade Forex on their own capital in order to profit from speculation on future exchange rates. They mainly operate through Forex platforms that offer tight spreads, immediate execution and highly leveraged margin accounts.

 

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Risk Warning: Forex (FX) and Contracts for Difference (’CFDs’) are complex financial products that are traded on margin. Trading FX and CFDs carries a high level of risk since leverage can work both to your advantage and disadvantage. As a result, FX and CFDs may not be suitable for all investors because you may lose all your invested capital. You should not risk more than you are prepared to lose. Before deciding to trade, you need to ensure that you understand the risks involved taking into account your investment objectives and level of experience. Past performance of FX and CFDs is not a reliable indicator of future results. Most FX and CFDs have no set maturity date. Hence, a CFD position matures on the date you choose to close an existing open position. Seek independent advice.