February 22, 2024

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Foreign Exchange Market and the Five Secrets of Its Success

3 min read

The foreign exchange market or forex market as it is more commonly known used to be the preserve of the big international banks and to a degree they still try to control and manipulate it. However, largely due to the internet and high speed connections, the market has opened up significantly to the smaller traders. The forex market is unique and offers a better opportunity to make money than most other forms of investment for five basic reasons:

1) Global Market

Forex trading is carried out all over the world and whilst it is influenced by domestic events in the countries of major financial importance, the effects are often balanced out between negative influences in one corner of the world and positive influences elsewhere. Forex trading is always between two currencies or forex pairs as they are known and the individual currencies have no absolute value in isolation. The value of a currency can only be measured in comparison with another currency and if one of them falls in value the other will rise in value. This is unique because in other forms of investment such as the stock market, a negative influence in one corner of the world can ripple around the world and create a fall in value in stocks around the world. The current economic crisis is a perfect example of this. The sub-prime lending market in the USA crashed and the effects were soon felt around the world with the biggest stock market crash since the 1930’s.

2) Trading Volume

Simply put, this is the amount of money being traded at any given time and within the foreign exchange market the trading volume is immense. A survey carried out a couple of years ago put the amount of money being traded in the forex market at $4 trillion per day. The US Dollar is the single most traded currency involved in 85% of all forex trades, followed by the Euro at 35%. The largest forex trading center is London, followed by New York and Tokyo.

3) Liquidity

The liquidity of an asset is the ease with which it can be turned into cash without loss of value or at least without any significant loss in value. Currency is money and money is cash and is therefore more liquid than any other asset making it very easy to trade.

4) Leverage

Leverage in the financial world is about controlling a large about of money with a small amount of money. In the Forex market we see the highest leverage ratios being applied. Typically 50:1, 100:1 or even 200:1. At the lower end, 50:1 or 100:1 is normally provided for a standard trade of 100,000 units of a given currency. For smaller trades of $50,000 or less 200:1 is the norm.

For example, an investor trading $100,000 will only need $1,000 in his trading account and an investor trading $50,000 will only need $250.

This level of leveraging compares with 15:1 in the futures market and only 2:1 is common in the equities market. The reason for such high levels in the forex market is because the level of risk is relatively low with currency price changes usually only 1% or less during a days trading.

5) 24 Hour Market

Because the foreign exchange market is global, forex trading can carried out 24 hours a day over 5 days per week. The market effectively opens in Sydney, Australia at 22:00 UTC on Sunday evening and closes on Friday afternoon in New York at 22:00 UTC.

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