Foreign exchange market and A Guide to Forex Trading

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International Currency market (Forex)

Foreign exchange markets are undeniably huge. According to a survey done by the Bank of International Settlement (BIS) in April 2013, $5.4 trillion was exchanged. My estimation is that the number has likely risen to between $5.8 and 6 trillion as of April 2016; this is nearly 20% more than India’s total yearly GDP! Here you can find a link for the full report.

The currency markets undoubtedly benefit from the Sun setting in different places; as trade is continuously conducted in major global markets and information travels swiftly.

Keep the Indian markets as a reference and consider that before they open, those in Australia, Japan, Hong Kong and Singapore are already active. There is some crossover between these markets and India’s. When the Southeast Asian market closes, the Middle Eastern markets open up and simultaneously European finance centres – London, Frankfurt and Paris – come alive. This provides an ideal situation for Indian traders as our time zone coincides with South East Asia and Europe. Lastly, US markets kick off while Japan’s markets start their day – the cycle then runs non-stop 24/7!

This period, when the US, UK, Japanese and Australian markets are trading, is known for high levels of activity in currencies. This is due to increased order flow.

Which brings us to an intriguing query – who are involved in trading currencies, and why is their notional value so high? More crucially, how does one go about trading them?

The Foreign Exchange (Forex) markets involve many different participants, not just investors and traders. These include Central Banks, Corporates, Banks, Travelers, and of course, traders – each bringing their own objectives to the table. Corporations may be using USD to manage their risk while travellers are buying currency for trips overseas. Traders can take part in Forex by speculating on changing exchange rates. The sheer number of participants helps to drive up trading volumes and as it is a highly leveraged activity, these may appear large when expressed as notional values.

Forex transactions occur in different financial institutions around the world, like NSE in India. This decentralized system allows for information to be freely exchanged across platforms, creating a truly global and boundary-less exchange.

– Currency Pairs and quotes

When it comes to currency trading, pairs are the standard. These values change as transactions take place; for instance, USD INR or GBP INR. The format of these currency duos is generally displayed this way –

Base Currency / Quotation Currency = value

There are three parts here, let’s figure out each one of them –

The base currency acts as a reference point and is always fixed at 1 unit. Examples include the US Dollar, Indian Rupee, or Euro.

Quotation Currency – This relates to another currency different than the base one. This alternate form of money is known as quotation currency.

The worth of the Quotation Currency is represented by its value in relation to the Base Currency.

It may be complicated, but let’s consider an example to illustrate. Say the exchange rate for USD/INR is 67.

The Base Currency here is USD; as mentioned previously, it is kept at a constant of 1. In other words, it is equivalent to 1 US Dollar.

Quotation Currency is in Indian Rupees (INR)

Value is 67, representing a rate of exchange where 1 unit of the Base Currency (USD) obtains an equivalent value of 67 in the Quotation Currency (INR). To put it simply, $1 = Rs.67.