The forex market is an over-the-counter or globalized market for the trading of various currencies. This marketplace decides international exchange rates for each currency. It includes all the aspects of trading, buying and selling currencies at either current or pre-decided prices. The forex market influences the trade in other markets as well including: bond market, interest rate determination, price fixing and political decision making.
The main economic feature of the forex market is its global scope. It covers the entire globe where most currencies are traded. Besides, the forex trading is done electronically. Although this aspect is very advantageous to the traders, it has some disadvantages too. Forex trading is done with the use of electronic communication networks like the internet, Telephone networks (ISP’s), and banks. The forex transactions are usually carried out through banks, financial institutions and trading houses that are either operated by governments or private bodies.
There are two types of forex trading namely, spot forex trading and forward contract. In spot forex trading, traders buy and sell the same currency pair at the same time. For example, if a trader wants to buy the EUR/USD pair then he buys the EUR and the USD. Similarly, in the case of forward contract, the buyer and seller agree to buy or sell the particular currency pair at a later date.
Forex leverages are used to leverage the exchange rate. Leverage in the forex market refers to the use of financial instruments like credit default swaps, interest rate swaps and forward contracts. These can be used by any forex broker in order to increase their trading portfolio and gain profits. Forex leverage not only gives the trader an increased share in the profit but also ensures that the trader keeps minimum losses in his trade. It is because of this reason that every trader should have some amount of leverage to ensure that they do not encounter huge losses.
Forex pairs are traded in pairs. Among which the most popular are the U.S. dollar/Japanese yen, euro/dollar, pound/dollar, U.S. dollar/British pound/U.S. dollar. There are three types of exchanges used in the forex trading market namely, spot, forward contract, and futures. In case of spot forex trades, the transactions are done on a one-for-one basis meaning that when a deal is made, one unit is bought at the rate prevailing at that moment in time.
On the other hand in the case of a forward contract the trader is required to buy the assets at the strike price before the expiry of the period given within the contract. This is generally done in the case of forex options as it allows the investor to speculate the value of currency and thereby gains or loses depending on the change in the exchange rates. It has been seen that a lot of loss is incurred by the traders due to the flaw in the pricing system. However, with the introduction of automated systems in the forex market, the amount of loss incurred can be controlled to a great extent.