To answer the question, “what is forex trading for beginners?” let’s start from the very basic level. The term “forex” stands for foreign exchange. In simple words, forex trading refers to the trading of currencies from different countries against each other – for instance, the US dollar against the British pound. Forex trading has an average daily trading volume of $5 trillion, which makes it one of the most actively traded markets in the world. In the forex market, transactions are conducted over an online “interbank market” which operates round-the-clock, five days a week.
Forex trading can be challenging for beginners because there are no books that contain the secrets to making consistent profits. In the land of forex trading, all education comes from experience. So, if you are a beginner who is looking to learn about forex trading, you have come to the right place! This article contains a complete guide to understand what forex trading for beginners is.
Forex Trading for Beginners: Explained
Like most other markets, forex markets are also dependent on demand and supply. Using a very simple example, if there is a very high demand for the European euro from American citizens holding US dollars, the Americans will exchange their dollars into euros. Due to high demand, the value of the European euro will rise, while the value of the dollar will fall due to excess supply. It is important to remember that such a transaction will only impact the value of the USD/EUR currency pair and will not cause the euro to depreciate against the Chinese yuan.
Who Trades in a Forex Market?
Essentially, there are two different types of traders in the forex market. These are hedgers and speculators. Hedgers are those who try to avoid extreme or drastic movements in the exchange rate. A simple example would be that of conglomerates like Exxon as they aim to minimize their exposure to foreign currency movements.
Contrarily, speculators are those who seek risk and are always looking for volatility in exchange rates to make a profit. Examples of speculators in the forex market include large trading desks at the big banks and retail traders.
Positions in Forex Market
In a forex trade, the term ‘position’ is used to describe an on-going trade. A long position means that a trader has purchased a country’s currency because they are expecting an increase in its value. Once the trader has sold the same currency back to the market for a price higher than what they paid for, their long position is “closed” and the trade is said to be complete.
A short position refers to a trader who expects a currency’s value to decrease and therefore sells it with plans to buy it later at a price lower than what they sold it for. A short position is “closed”, once the trader has bought back the currency they initially sold.
Price and Quote in Forex Markets
Forex trade involves two main prices – the ask price and the bid price. The ask price is the price at which can buy a currency, whereas the bid price is the price at which you can sell a currency.
In forex trading, currencies are quoted in relation to another currency. For example, to refer to the exchange rate of the euro to the US dollar, the relationship is quoted as EUR/USD. The first currency in the quotation, represented by its three-letter symbol, is known as the base currency. The second currency, in this case, the US dollar, is referred to as the quote currency.
Most Traded Currency Pairs
There are three main currency brackets on the forex market. These include major, cross, and exotic currency pairs.
Major currency pairs are the most frequently traded pairs. They account for almost 80% of all the forex trade volume. These currency pairs are characterized by low volatility and high liquidity. There are seven major currency pairs on the forex market, including USD/CAD, AUD/USD, USD/CHF, GBP/USD, USD/JPY, EUR/USD. Since these pairs are associated with stable economies, they are less vulnerable to manipulation.
Crosses are pairs that do not include the US dollar (USD). The six cross currency pairs are EUR/JPY, EUR/GBP, GBP/JPY, NZD/JPY, CAD/CHF, and AUD/JPY. These pairs are more volatile and less liquid than major currency pairs.
Exotic currency pairs are ones that combine currencies from a smaller economy with a major one. The six exotic pairs are USD/MXN, GBP/NOK, GBP/GKK, CHF/NOK, EUR/TRY, and USD/TRY. Compared with the other two pairs, these pairs are highly volatile, less liquid, and have a higher risk of manipulation.
Benefits of Forex Trading
Forex trading has several advantages over other markets. These include:
1. High Accessibility. One of the biggest benefits of forex trading is its accessibility. Traders can enter a forex trade for as low $1. Along with this, forex trading offers a free demo account so traders can practice trading forex without risk. A live trading simulation environment allows traders to familiarize themselves with the trading platform, market movements, and formulate a risk management strategy without making any financial commitments.
2. Low Transaction Costs. The forex market has low transaction costs. Generally, traders make profits from spreads, which are calculated in pips (short for percentage in points) and added to the price of a currency pair. The pip difference between an ask and buy price shows the spread. In forex trading, pips are typically low, which makes forex trading cheaper than other markets, such as equities.
3. Leverage Trading. Forex trading involves the use of leverage. This simply means that a trader will have to only pay a fraction of the trading cost rather than the full cost associated with the trade. This means that there is a huge opportunity to multiply your profits, but the same case also applies to losses. Adopting a disciplined risk management approach will help maximize your profits and minimize losses.
Forex trading is not a scheme to become rich quickly. Instead, it is a long-term strategy that requires thorough knowledge and a clear understanding of how international events can impact the market. Therefore, before making any financial investments, conduct extensive research and ensure that you are completely familiar with the market.