What is Forex?
Think the stock market is huge? Think again. Learn about the LARGEST financial market in the world and how to trade in it.
What Is Traded In Forex?
The simple answer is MONEY.
Because you’re not buying anything physical, forex trading can be confusing.
Think of buying a currency as buying a share in a particular country, kinda like buying stocks of a company.
The price of the currency is usually a direct reflection of the market’s opinion on the current and future health of its respective economy.
In forex trading, when you buy, say, the Japanese yen, you are basically buying a “share” in the Japanese economy.
You are betting that the Japanese economy is doing well, and will even get better as time goes. Once you sell those “shares” back to the market, hopefully, you will end up with a profit.
In general, the exchange rate of a currency versus other currencies is a reflection of the condition of that country’s economy, compared to other countries’ economies.
By the time you graduate from this School of Pipsology, you’ll be eager to start working with currencies.
Currency symbols always have three letters, where the first two letters identify the name of the country and the third letter identifies the name of that country’s currency.
Take NZD for instance. NZ stands for New Zealand, while D stands for dollar. Easy enough, right?
The currencies included in the chart above are called the “majors” because they are the most widely traded ones.
We’d also like to let you know that “buck” isn’t the only nickname for USD.
There’s also: greenbacks, bones, benjis, benjamins, cheddar, paper, loot, scrilla, cheese, bread, moolah, dead presidents, and cash money.
So, if you wanted to say, “I have to go to work now.”
Instead, you could say, “Yo, I gotta bounce! Gotta make them benjis son!”
Or if you wanted to say, “I have lots of money. Let’s go to the shopping mall in the evening.”
Instead, why not say, “Yo, I gots mad scrilla! Ima head to the mall later.”
Did you also know that in Peru, a nickname for the U.S. dollar is Coco, which is a pet name for Jorge (George in Spanish), a reference to the portrait of George Washington on the $1 note?
The Different Ways To Trade Forex
Because forex is so awesome, traders came up with a number of different ways to invest or speculate in currencies.
Among these, the most popular ones are spot forex, currency futures, currency options, and currency exchange-traded funds (or ETFs).
Futures are contracts to buy or sell a certain asset at a specified price on a future date (That’s why they’re called futures!).
FX futures were created by the Chicago Mercantile Exchange (CME) way back in 1972, when bell bottoms and platform boots were still in style.
Since futures contracts are standardized and traded on a centralized exchange, the market is very transparent and well-regulated. This means that price and transaction information are readily available.
An “option” is a financial instrument that gives the buyer the right or the option, but not the obligation, to buy or sell an asset at a specified price on the option’s expiration date.
If a trader “sold” an option, then he or she would be obliged to buy or sell an asset at a specific price at the expiration date.
Just like futures, options are also traded on an exchange, such as the Chicago Mercantile Exchange (CME), the International Securities Exchange (ISE), or the Philadelphia Stock Exchange (PHLX).
However, the disadvantage in trading FX options is that market hours are limited for certain options and the liquidity is not nearly as great as the futures or spot market.
Exchange-traded funds or ETFs are the youngest members of the forex world.
A currency ETF offers exposure to a single currency or basket of currencies. Here’s a list of the most popularly traded currency ETFs.
ETFs are created and managed by financial institutions who buy and hold currencies in a fund. They then offer shares of the fund to the public on an exchange allowing you to buy and trade these shares just like stocks.
Like currency options, the limitation in trading currency ETFs is that the market isn’t open 24 hours. Also, ETFs are subject to trading commissions and other transaction costs.
Spot Forex Market
In the spot market, currencies are traded immediately or “on the spot,” using the current market price. What’s awesome about this market is its simplicity, liquidity, tight spreads, and round-the-clock operations.
It’s very easy to participate in this market since accounts can be opened with as little as $50! (Not that we suggest you do) – you’ll learn why in our Capitalization lesson!
Aside from that, most forex brokers usually provide charts, news, and research for free.
In the School of Pipsology, when it comes to the specific way to trade currencies, we’ll be primarily talking about the spot forex market.
Why Trade Forex?
Want to know some reasons why traders love the forex market? Read on to find out what makes it so attractive!
Why Trade Forex: Advantages Of Forex Trading
There are many benefits and advantages of trading forex.
Here are just a few reasons why so many people are choosing this market:
No clearing fees, no exchange fees, no government fees, no brokerage fees. Most retail brokers are compensated for their services through something called the “bid/ask spread“.
Spot currency trading eliminates the middlemen and allows you to trade directly with the market responsible for the pricing on a particular currency pair.
No fixed lot size
In the futures markets, lot or contract sizes are determined by the exchanges. A standard-size contract for silver futures is 5,000 ounces.
In spot forex, you determine your own lot, or position size. This allows traders to participate with accounts as small as $25 (although we’ll explain later why a $25 account is a bad idea).
Low transaction costs
The retail transaction cost (the bid/ask spread) is typically less than 0.1% under normal market conditions. At larger dealers, the spread could be as low as 0.07%. Of course, this depends on your leverage and all will be explained later.
A 24-hour market
There is no waiting for the opening bell. From the Monday morning opening in Australiato the afternoon close in New York, the forex market never sleeps.
This is awesome for those who want to trade on a part-time basis because you can choose when you want to trade: morning, noon, night, during breakfast, or in your sleep.
No one can corner the market
The foreign exchange market is so huge and has so many participants that no single entity (not even a central bank or the mighty Chuck Norris himself) can control the market price for an extended period of time.
In forex trading, a small deposit can control a much larger total contract value. Leverage gives the trader the ability to make nice profits, and at the same time keep risk capital to a minimum.
For example, a forex broker may offer 50-to-1 leverage, which means that a $50 dollar margin deposit would enable a trader to buy or sell $2,500 worth of currencies. Similarly, with $500 dollars, one could trade with $25,000 dollars and so on.
While this is all gravy, let’s remember that leverage is a double-edged sword. Without proper risk management, this high degree of leverage can lead to large losses as well as gains.
Because the forex market is so enormous, it is also extremely liquid. This is an advantage because it means that under normal market conditions, with a click of a mouse you can instantaneously buy and sell at will as there will usually be someone in the market willing to take the other side of your trade.
You are never “stuck” in a trade. You can even set your online trading platform to automatically close your position once your desired profit level (a limit order) has been reached, and/or close a trade if a trade is going against you (a stop loss order).
Low Barriers to Entry
You would think that getting started as a currency trader would cost a ton of money. The fact is, when compared to trading stocks, options or futures, it doesn’t. Online forex brokers offer “mini” and “micro” trading accounts, some with a minimum account deposit of $25.
We’re not saying you should open an account with the bare minimum, but it does make forex trading much more accessible to the average individual who doesn’t have a lot of start-up trading capital.
Free Stuff Everywhere!
Most online forex brokers offer “demo” accounts to practice trading and build your skills, along with real-time forex news and charting services.
And guess what?! They’re all free!
Demo accounts are very valuable resources for those who are “financially hampered” and would like to hone their trading skills with “play money” before opening a live trading account and risking real money.
Now that you know the advantages of the forex market, see how it compares with the stock market!
Why Trade Forex: Forex vs. Stocks
There are approximately 2,800 stocks listed on the New York Stock exchange. Another 3,100 are listed on the NASDAQ.
Which one will you trade? Got the time to stay on top of so many companies?
In spot currency trading, there are dozens of currencies traded, but the majority of market players trade the four major pairs.Aren’t four pairs much easier to keep an eye on than thousands of stocks?
Look at Mr. Forex. He’s so confident and sexy. Mr. Stocks has no chance!
That’s just one of the many advantages of the forex market over the stock markets. Here are a few more:
The forex market is a seamless 24-hour market. Most brokers are open from Sunday at 4:00 pm EST until Friday at 4:00 pm EST, with customer service usually available 24/7.
With the ability to trade during the U.S., Asian, and European market hours, you can customize your own trading schedule.
Minimal or No Commissions
Most forex brokers charge no commission or additional transactions fees to trade currencies online or over the phone.
Combined with the tight, consistent, and fully transparent spread, forex trading costs are lower than those of any other market.Most brokers are compensated for their services through the bid/ask spread.
Instant Execution of Market Orders
Your trades are instantly executed under normal market conditions. Under these conditions, usually the price shown when you execute your market order is the price you get.
You’re able to execute directly off real-time streaming prices (Oh yeeeaah! Big time!).
Keep in mind that many brokers only guarantee stop, limit, and entry orders under normal market conditions. Trading during a massive alien invasion from outer space would not fall under “normal market” conditions.Fills are instantaneous most of the time, but under extraordinarily volatile market conditions, like during Martian attacks, order execution may experience delays.
Short-Selling without an Uptick
Unlike the equity market, there is no restriction on short selling in the currency market. Trading opportunities exist in the currency market regardless of whether a trader is long or short, or whichever way the market is moving.
Since currency trading always involves buying one currency and selling another, there is no structural bias to the market. So you always have equal access to trade in a rising or falling market.
Centralized exchanges provide many advantages to the trader. However, one of the problems with any centralized exchange is the involvement of middlemen.
Any party located in between the trader and the buyer or seller of the security or instrument traded will cost them money. The cost can be either in time or in fees.Spot currency trading, on the other hand, is decentralized, which means quotes can vary from different currency dealers.
Competition between them is so fierce that you are almost always assured that you get the best deals. Forex traders get quicker access and cheaper costs.
Buy/Sell programs do not control the market.
How many times have you heard that “Fund A” was selling “X” or buying “Z”? The stock market is very susceptible to large fund buying and selling.
In spot trading, the massive size of the forex market makes the likelihood of any one fund or bank controlling a particular currency very small.
Banks, hedge funds, governments, retail currency conversion houses, and large net worth individuals are just some of the participants in the spot currency markets where the liquidity is unprecedented.
Analysts and brokerage firms are less likely to influence the market
Have you watched TV lately? Heard about a certain Internet stock and an analyst of a prestigious brokerage firm accused of keeping its recommendations, such as “buy,” when the stock was rapidly declining?
It is the nature of these relationships. No matter what the government does to step in and discourage this type of activity, we have not heard the last of it.IPOs are big business for both the companies going public and the brokerage houses.
Relationships are mutually beneficial and analysts work for the brokerage houses that need the companies as clients. That catch-22 will never disappear.
Foreign exchange, as the prime market, generates billions in revenue for the world’s banks and is a necessity of the global markets. Analysts in foreign exchange have very little effect on exchange rates; they just analyze the forex market.
|Minimal or no Commission
|Instant Execution of Market Orders
|Short-selling without an Uptick
|No Market Manipulation
In the battle between forex vs. stocks, it looks like the scorecard between Mr. Forex and Mr. Stocks shows a strong victory by Mr. Forex! Will it go for 2-0 with Mr. Futures?
CONTACT US Now to get started.