What is Forex market and how it how does it work

Forex market
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Last updated on July 18th, 2022 at 09:48 am

You might have heard of Forex but not quite sure what it is all about. Here are some answers to grasp the basic concept of this highly profitable market.

A very speculative foreign exchange market

Forex refers to “foreign exchange market”, an over-the-counter market on which financial instruments (exchange contracts) are traded with the exchange rates of different currencies as their underlying. Players in this market (mainly bank traders) set currency prices among themselves 24 hours a day.

On the Forex, investors worldwide (especially professionals and amateurs operating via specialized sites) speculate on the evolution of the course of convertible currencies (exchangeable between them). Thus, the American dollar can be exchanged against the euro, according to an exchange rate that varies permanently. And vice versa. To avoid bull trap, traders use various analytical tools provided by their brokers.

8 reference currencies, led by the dollar

In this Forex market, there is no middleman. All you have to do is open an account with an online broker and then download a trading platform. Once these technical steps have been completed, the investor finds himself immersed in the foreign exchange market, making his trades (exchanges) directly.

The operation of the market is carried out by a pair of currencies: for example, euro and US dollar (EUR/USD). Trading a pair of currencies involves buying one while selling the other.

Forex financial instruments concern the following 8 reference currencies: the American dollar, the euro, the pound sterling, the Japanese yen, the Swiss franc, the Canadian dollar, the New Zealand dollar, and the Australian dollar (the pairs major currencies being: EURUSD, GBPUSD, USDJPY, USDCHF).

In the EURUSD pair, euro is the base currency, while the US dollar is the counter currency. Base currency is evaluated in relation to the counterparty. This is what makes it possible to fix the Forex quotation (it indicates how many dollars it takes to buy a euro and how much a euro is worth in dollars).

It is the appreciation of one currency against the other (or vice versa, its depreciation) that can eventually allow the trader to make a profit, although it is extremely rare in practice to succeed in making gains. Concretely, the trader commits to buying or selling such currency at such price (thanks to derivative products, such as swaps and currency options). Depending on the evolution, the currency will be a winner or a loser in the transaction. All that remains is for him to choose the amount of his investment, knowing that if he has incorrectly anticipated the market, he loses all his bet.

Things to watch out to avoid risks

Investing in Forex comes with risks to be taken into account. Forex market is a very volatile and, above all, unpredictable market because it is subject to global political and economic fluctuations, which can lead some traders to take financial risks beyond the limits they have set. In the inability to anticipate these changes with precision, the risk of capital loss then becomes particularly high, even inevitable.

Real online scams sometimes, many websites posing as approved intermediaries, but not benefiting from any authorization, offer their services to individuals online. For example, they promise investors to recover the sums lost on unauthorized websites in exchange for personal data. This is why the financial regulatory bodies maintain a blacklist of unauthorized Forex sites. So make sure your broker is regulated before opening a trading account.

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