Currency Trading Basics

Currency Trading Basics

Currency trading has become the largest market in the world, where, an estimated $3.2 trillion is transacted every day. We can easily guess the tremendous size of this market when we compare it with the New York Foreign exchange, where daily trading is a mere $2 billion. The practice of currency trading is termed Foreign Exchange and in short, Forex. Forex has become dominant over all other equity markets as it offers high returns. But it is a complex market and it is necessary to understand how it works and what the basics are.

First of all, a new trader needs to understand that trading in Forex involves a high level of risk, as the value of currency fluctuates every day. What most people don’t understand is that profit can be made from the movement of these currencies, depending on the value of currencies' exchange rate. A key point to remember is that trading in Forex is quite different from trading stock.

The instrument traded by traders and investors are currency pairs. Traders buy currency and sell another at the same time. That’s why currencies are traded in pairs. A currency pair is the exchange rate of one currency over another and vice versa.

For example: EUR/USD: Euro, GBP/USD: Pound, USD/CAD: Canadian dollar, USD/JPY: Yen, USD/CHF: Swiss franc, AUD/USD: Aussie. The conversion factor from one to another currency is termed an exchange ratio. For example in the USD/JPY, the first currency, which is the US dollar, is termed as the base currency while Japanese Yen is termed as the quote currency/counter currency. In Forex, each currency pair is expressed in units of counter currency to get 1 unit of the base currency. The base currency is the one which the Forex broker is trading. All currency pairs are quoted in bid/ask price. The bid is always lower than the ask price. These currency pairings generate 85 percent of total volume in Foreign exchange. When a person does a trade, his main aim is that he wants the currency purchased to appreciate in value versus the currency sold. His ability to determine the direction in which the exchange rate moves, decides his gain or loss. Compared to equity trading, trading in currency has several benefits. It is highly volatile and this allows traders to earn good returns on their investments.

One should always keep in mind that trading involves risk and before trading should consider ones investment objectives properly.


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