Forex Trading - An Introduction

The Foreign Exchange Market was originally established in 1971 when existing fixed currency exchanges were abolished. At that point, currencies became valued at 'floating' rates determined by supply and demand. The FOREX grew steadily throughout the 1970's, but, with the technological advances of the 1980's, FOREX grew from trading levels of $70 billion a day to its current level of $1.5 trillion.

PRESENT MAKE UP OF THE FOREIGN CURRECNY EXCHANGE

At this time, the FOREX is made up of about 5000 trading institutions such as international banks, central government banks (such as the US Federal Reserve), and commercial companies and brokers for all types of foreign currency exchange transactions.

Some find the tact that there is no central business location of FOREX to be confusing.

However, major trading centers can be found in New York, Tokyo, London, Hong Kong, Singapore, Paris, and Frankfurt, and all trading is by telephone or over the Internet. While so-called "normal" businesses make use of the market to buy and sell products in other countries, most of the activity on the FOREX comes from individual currency traders who use small FOREX market movements to create profits.

Despite the fact that there are many huge players in FOREX, it is still quite easily accessible to the small investor thanks to recent changes in regulations governing FOREX trading.

At one time, there was a minimum transaction size and traders were required to meet strict financial requirements. With the advent of Internet trading, regulations have been changed to allow large interbank units to be broken down into smaller lots. Each lot is worth about $100,000 and is accessible to the individual investor through 'leverage' - loans extended for trading. Typically, lots can be controlled with a leverage of 100:1 meaning that US$1,000 will allow you to control a $100,000 currency exchange.

There are several advantages associated with FOREX trading.

• Liquidity
  
  Because of the size of the Foreign Exchange Market, investments are extremely liquid. International banks are continuously providing bid and ask offers and the high number of transactions each day means there is always a buyer or a seller for any currency.
  
  
• Accessibility
  
  The market is open 24 hours a day, 5 days a week. The market opens Monday morning Australian time and closes Friday afternoon New York time. Trades can be done on the Internet from your home or office.
  
  
• Open Market
  
  Currency fluctuations are usually caused by changes in national economies. News about these changes is accessible to everyone at the same time - there can be no 'insider trading' in FOREX.
  
  
• No commission
  
  Brokers earn money by setting a 'spread' - the difference between what a currency can be bought at and what it can be sold at.

How does FOREX work?

Currencies are always traded in pairs - the US dollar against the Japanese yen, for example, or the English pound against the euro. Every transaction involves selling one currency and buying another, so if an investor believes the euro will gain against the dollar, he will sell dollars and buy euros.

The potential for profit exists because there is always movement between currencies. Even small changes can possibly result in substantial profits because of the large amount of money involved in each transaction. At the same time, it can be a relatively safe market for the individual investor. There are safeguards built in to protect both the broker and the investor. A number of software tools exist to minimize loss.

FOREX Glossary