What Exactly Is Foreign Currency Trading And How Do You Do It?
Let's break it all down.
Stocks, shares, buying and selling -- while some of that may sound straightforward, there are some areas that are less so.
In particular, Foreign Currency trading. Or Forex as it’s known by, well, the people who do it all the time.
Let us try and explain it a bit…
Forex is the world’s most-traded financial market -- buying and selling currency -- with transactions worth trillions of dollars taking place every day.
And actually, you’ve probably already done some of it… because if you've ever travelled overseas, you've made a Forex transaction. You trading expert, you!
If you have ever taken a trip to the USA for example, you converted your Aussie dollars into US moula, right? How it works is when you convert that money, the exchange rate between the two currencies -- based on supply and demand -- determines how much green you get for your Aussie cash.
That’s the Forex market in action.
While that actually sounds quite simple, in reality it can get pretty tricky once you use the Forex to simply try and make a profit by buying and selling that currency. You see, currency trading, like any financial product, has quite a bit of risk involved.
All Forex trades essentially involve betting on the value of one currency against another.
Yes, it’s kinda gambling. And there is much more to it as well… like the spot market vs the futures market. Confused yet?
The “spot market” is essentially where the actual cash is -- as opposed to the “futures” market. Which, as its name suggests, is about projection and working out the worth in the -- you guessed it -- future.
The spot market is where currencies are bought and sold according to their current price. That price is a reflection of many things, including interest rates, economic performance, ongoing political situations and the perception of the future performance of one currency against another.
Usually, it’s the big international corporations that use the future and forwards markets in order to “hedge” against future exchange rate fluctuations -- by fixing a rate they can protect against risk, though this can also mean they aren’t set to gain as much.
Oh, and these markets change depending on who is buying or selling, how they’re doing it and how much money is out there.
As an individual your buying power is, as a rule, pretty insignificant compared to that of the big traders and companies, so you can’t really trade without a Forex broker or a bank.
They’re needed to secure you a trading account and the real access to the market via their trading servers, and they can help you start buying and selling currency.
They can also explain why it’s critical to understand the risks of currency trading in Australia, and features such as leverage which can lead to significant losses in some circumstances.
What is that leverage we speak of? In money terms it means the use of debt (borrowed funds) to amplify returns. For example, if you're trading 200: 1 leverage, you can trade $2,000 in the market while only setting aside $10 in margin in your trading account. Essentially you’re being lent the money to trade the currency.
All sounds great, right, but it can also increase your losses significantly.
Still want to know more? You may want to talk to some experts from here on in. When you're new to Forex, you should always start trading small with lower leverage ratios, until you feel comfortable in the market, and work with brokers who can help you with products like guaranteed stops and negative balance.
The team at Compare Forex Brokers can help you understand all the risks and find you the right broker so we don’t have to explain it any further…
Good luck out there.