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What is Forex Market and How Does It Work?
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The Forex market is a bit difficult to understand, but the aim of trading in the Forex market is to make money from the ever-changing value of the world’s many currencies. To be profitable on the Forex market, one currency is set against one other currency that is utilized as a base currency. A pair of currencies is used to symbolize a Forex trade in order to represent the two currencies that are being pitted against one another. For example, if a currency pair is represented as USD/JPY, then the U.S. dollar is being traded against the Japanese Yen. In this transaction, the U.S. dollar is the base currency and the Japanese yen is known as the counter currency. In Forex transactions, the actual currency is rarely if ever exchanged. The deals are, instead, undertaken as contracts between two trading parties. The losses or gains from the Forex transaction are simply recorded into each trader’s account.
On any given day, currency values can be quite volatile, and although there may not be a drastic price fluctuation in currencies at all times, then movement is constant either in one direction or another. For those discerning traders that have studied the market and know what they are doing, there are significant gains to be made on the Forex market.
Forex Market versus the Stock Exchange
When compared to other markets, such as a stock exchange like the NYSE, the Forex market is quite different, mainly in the fact that it is relatively void of any regulation. A trade on the Forex market is entered into by two parties. There are no intermediaries to go through to route Forex transactions, although there may be some type of broker who works as a middle man for smaller investors. But there is no clearing house or dues to settle up at the end of the deal. Forex deals are over-the-counter or OTC deals, and as such, they do not take place in an exchange. This means that there is no need for the participants in the trade to be much disciplined in Forex trading. Individual investors can trade with the help of a Forex dealer in the over-the-counter market.
Forex dealers should be registered with the NFA, which is the National Futures Association. The NFA is an industry-wide, self-regulatory organization whose job it is to oversee the U.S. future’s industry. The NFA is headquartered in Chicago, Illinois. Dealers that are registered with the NFA are considered to be more credible than those who are not. NFA members enjoy arbitration services from NFA in the event of a transaction dispute, among other benefits.
Forex Trading for Novice Investors
Even experienced traders have a bit of difficulty understanding the Forex trading system, and that is doubly so for the novice investor or novice trader. With
some practice and knowledge, the process is a bit easier to understand. A big part of understanding Forex trading is to understand price quotes.
For example, if the currency pair that is being transacted is written: USD/JPY = 119.20, this shows that each U.S. dollar is worth 119.20 yen.
So, if you wish to buy one U.S. dollar using Japanese yen, you will need to pay that number of yen for one dollar.
If the Forex trader thinks that the Japanese yen will decline in value, he can sell his yen to buy the base currency.
This will give him what is known as a “long-position” in the trade. If he decides to buy Japanese yen and sell U.S. dollars, which is the base currency,
then he would then be taking the “short-position” on the trade. In short, if you are buying, you are purchasing dollars while exchanging yen,
and if you are selling, you are paying for yen using U.S. dollars.
Related articles: Best Forex Broker in 2012.
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