All About Forex Trading

What is forex trading?

The word ‘Forex’ stands for foreign exchange. Forex is the process of changing currency. One national currency is changed to another in this process mainly for prime reasons like trading, business, commerce, tourism, and travel, etc. The forex trading platforms where these exchanges take place are known as foreign exchange markets. It means the forex market is a market where the commodity is the currency itself that gets traded. This trading process is known as forex trading.

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How does it work?

The most unique and interesting aspect of the international forex market is, it is a de-centralised market. Hence it is not regularised, guided or controlled by any centralised authority. There is no single central marketplace where currency trading takes place, rather it is a worldwide open market and the entire process of forex exchange takes place electronically via the internet. The trading is conducted between traders throughout the world Over The Counter (OTC) i.e. by using the virtue of the internet through computers. A trader can make profits through forex trading by the differences of interest rates between two separate currencies due to the different economies around the world. The investor or the trader can buy a currency with a higher interest rate and can make a profit by shorting the same with a cheaper interest rate.

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How does the spot market work?

A spot market is such a platform where financial tools are exchanged. This exchange process takes place with immediate effect and that is why the market is known as the spot market. Financial instruments like currencies, commodities, and securities can be exchanged in spot markets for immediate cash.

Spot markets are also known as “cash markets” or, “liquid markets” as cash transactions take place instantly for the exchange of financial commodities. In the spot market, the buyer and seller agree to the option of “trade now” and the exchange happens. Though the funds take time to get legally transferred from the buyer’s account to the seller’s account in reality like T+2 in the forex and share market.

Spot Price

The spot price is the current price of any financial tool. It is the price for which the specific financial instrument can be bought or, sold at that instant. Buyers and sellers create the spot price by posting the orders for buy and sell. The spot price is an instantaneous factor because as the old orders get filled up and new orders enter the liquid market the spot price for a particular financial instrument gets changed in the next instant. 

New York Stock Exchange (NYSE) is an example of a spot market where traders use the exchange platform to buy and sell stocks. 

Forwards markets

A forward market is a platform where the exchange takes place at forward pricing. Forward pricing is the value of any financial instrument pre-determined by the buyer and the seller as agreed upon in the forward contract. Both buyer and seller agree to trade on that forward price in a predetermined future time. 

The forward contract is so designed that the pre-determined forward pricing will make the contract value nullified. The fluctuations in the market price for the commodity, currency or other financial tools covered under the forward contract will make the value of the forward contract either positive or negative in the future.

Formula to determine forward price

F=S X er X T

[Where, F= Forward Pricing

S= Spot pricing

e= Constant

R= Risk-free rate of the forward contract

T= Date of delivery]

Fundamentals of forward price

It is clear from the above formula that the forward price is calculated based on the spot price which is known at that instant. Other costs like interest, carrying cost, foregone interest, storage cost, etc. are taken care of by the other factors of the formula as mentioned above.

As the initial value of any forward contract nullifies to zero hence both the buyer and the seller hold the equal position at the time of agreement. However, the future fluctuations in price determine who among them will gain. The party who becomes the gainer makes a profit exactly equal to the amount of loss the loser encounters.

Futures markets

The future market is also similar to the forward market. Future is a financial contract where both the buyer and seller agree to transact a financial asset at a preset price in a pre-determined future. The buyer is bound to purchase and the seller must sell the commodity as per the contract at the price predetermined irrespective of the spot price of the commodity on the date of expiration.

Forex for hedging

Hedging is a typical strategy known in the forex market to protect a trader’s position for a pair of currencies facing adverse market movements. This strategy is typically designed to overcome short-term losses for the trader. This short-term protection strategy helps in situations where the trader is facing adverse positions for a particular pair of currencies. Such situations are created due to some financial event or, news triggering abrupt volatility in the forex market.  

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There are following two types of strategies of hedging with forex,

First Strategy

In the first strategy, a hedge can be created by a trader to completely protect the present position for a pair of currency by holding both long and short positions parallel on that pair of currency. This can stop any further adverse market movement for that pair of currency successfully. This strategy is known as “perfect hedge” as it removes all the associated risks to that pair of currency as long as the hedge remains active. This also kills the chance of any potential gain from that pair of currency as well in that duration of the hedge.

Second Strategy

In the second strategy, a hedge can be created by a trader to partially protect the present position for a pair of currencies by utilising forex options. This strategy is known as an “imperfect hedge” as it only partially removes the associated risks to that pair of currencies as long as the hedge remains active. This also allows the chance of partial potential gain from that pair of currency in that duration of the hedge.

An imperfect hedge can be created when a trader holding a long position in a currency pair buys put option contracts to lower the risk and the trader holding a short position in a currency pair buys call option contracts to lower the risk.

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How to get started with forex trading

You may think forex trading is an easy task to perform; making money with forex trading is not everyone’s cup of tea even after using the best forex trading platform. With so many foreign currencies enlisted in the foreign exchange market having continuous fluctuations in their prices day in and day out, it is a cumbersome job for any trader to choose the right pair of currency and appropriate time of investment. A beginner needs to gather knowledge about forex trading and needs to learn the process to be successful.  

Many websites provide virtual trading platforms to practice trading. Such a platform is ideal for forex trading for beginners. This will give you a brief idea about how forex trading works in reality with risk factors associated with it. You can get knowledge about currency pairs and the best time to trade forex by utilising these virtual forex trading platforms. After practicing trading on such platforms, if you find that you are making profits frequently then it is time to gain leverage in forex trading by joining the real ball game. 

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How to learn forex

Well, if you already found enough interest in forex trading and want to invest in it seriously then it is advised to learn forex trading by joining any of the renowned courses available online or, offline. Following are the two best international online courses to learn forex trading for beginners. 

Forex Mentor

If you are a beginner and not much sure about getting into forex trading then this forex trading course is ideally designed for you by the well-known trader and investor Peter Bain. More than 27K traders got benefited from this forex course to date.

As a beginner, you can take the CCStarter pack for free to learn the basic patterns and simple market analysis. 

If you got the interest then you can join the S123 paid plan to learn the three simple steps of forex trading designed purely based on Fibonacci Numbers and mathematical waves. There are offers available most of the time if you join the paid plan. This is undoubtedly one of the most effective and cheap forex training courses to choose from on the internet.

eToro Trading School

This one-day course offered by e-Toro Trading School is considered to be one of the best forex training courses available in the market. Though it covers forex but also gives an overview of stock market investing and crypto currencies as well. If you are a beginner you can get exposure to all of them and learn the basics of financial markets. You will get an idea about the fundamentals of trading. The training is provided by Henry Ward, who has more than ten years of experience in professional trading.

This course has a unique feature of introducing the learner to famous trading personalities. This can help you to scale your nature as a trader and determine the utmost style of trading suitable for you.  

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Best Time to Trade Forex

Here are the best times according to markets to trade – New York – 8 am to 5 pm, Tokyo – 7 pm to 4 am, London 3 am to 12 pm, and Sydney – 5 pm to 2 am.

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Pros and Cons of forex trading

Any trader must know the following pros and cons before joining the forex trade:

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What are pips in forex trading?

The word ‘pip’ is the acronym or, short form for the term “price interest point” or, “percentage in point” in forex trading. It is the unit of price movement in the forex market. Pip is the lowest possible price movement that a currency can have in forex market. 

1 pip = 1/100 of 1% = 0.0001 = 1 basis point

Hope the above article gives you an idea about forex trading, though it is advised to learn forex trading before you join the market.

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