Forex Currency Trading Basics
Forex currency trading can be a profitable business. Learn the basics before you jump in.
Forex Currency Trading (Forex trading) is a good opportunity to make money for people who are trying to earn profits out of fluctuations in the values of currencies of various countries. But what is currency trading (Forex trading)? This article explain some basics of currency trading with tips and strategies.
Currency trading takes place because of two main reasons – tourism and business. The following examples explain this in detail:
- Mr. X from the United States is planning for a vacation / holiday in Australia. He has doubts if the US Dollar will be accepted in Australia. To avoid an awkward situation, Mr. X converts some US Dollars to Australian Dollars.
- Mr. Y is looking for some opportunity to make money according to the fluctuation in value of currency of different countries. He decides to invest in the Australian Dollar believing that rates might go up and he will make profit. Assume that if Mr. Y can buy 3 Australian Dollars in exchange for 1 USD and that he can sell them tomorrow for 2 USD. He will make a profit of $1.
➡ But why will the price of 3 Australian Dollars jump from 1 USD to 2 USD? Well, this is because of the fluctuations in the demand and supply of various currencies in the forex market.
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Foreign Currency Trading Basics
The forex (foreign exchange) market works on the supply and demand model. This simply means that if the supply of one currency is less and the demand is high, then it is going to enjoy a higher price value in the forex trading market. One has to keep in mind that it is also not a “get rich quick” business.
In the above example, Mr. Y was able to study and research the expected demand for the ASD before coming to any conclusion. Keeping a close eye on the Forex market is the key to success here. One should be able to study and research the fluctuations in the value of different currencies in order to succeed in this business and make money. In other words, Forex trading works more or less like the stock market.
Suppose a person is holding shares of Shell on the stock exchange, and if Shell finds some serious quantity oil, then the price of the shares will shoot up and the current holders of shares of Shell will make a good profit. This is the same with forex. If the price of a currency is expected to rise in the near future, one should buy the currency and then sell it at a higher price.
Terms used in Currency Trading
- Bid / Ask spread: The spread is the difference between the bid and ask price.
- Ask price: The ask is the price the market is prepared to sell a specific currency pair for in the Forex market.
- Bid price: The bid is the price the market is willing to pay to buy a specific currency pair.
- Also See: Share Trading Dictionary
Why Does the Demand for a Currency Fluctuate (Increase or Decrease)?
Successful currency trading demands proper understanding of why the demand and value of a currency fluctuates. Since the price of the currency is largely dependent on the demand for it, it is important to understand what causes the shifts in the demand. Proper understanding of the causes of the changes in demand can help to make an informed decision on whether or not to buy currency or sell currency.
Factors that control and influence the demand are: GDP, inflation and interest rates, trade agreements between the countries whose currency is being traded, budget plans, budget deficits, how the national stock market is doing and overall economic and political soundness of the country.
Say the capital market of an emerging market like India is doing well and the country is earning a substantial GDP and there are no political troubles. In such a case, India will be viewed as a potential target for multinationals to invest in.
The Indian stock market will also attract foreign investors. To invest in India, these companies will need Indian currency. So the Indian currency will be in great demand. This drives the price of the Indian currency higher.
Making Money with Currency Trading
Please be noted that forex currency trading market is a highly speculative market and one needs to do very thorough research before buying or selling currency, in order to make a profit. Coaching in the foreign exchange business can be very helpful to those who want to invest in this trade.