FOREX Frequently Asked Questions
What is currency exchange?
Also referred to as foreign exchange, FX or Forex, currency exchange is the trading of one currency against another. In terms of trading volume, the currency exchange market is the world's largest market, with daily trading volumes in excess of $1.5 trillion US dollars.
Why trade currencies?
Currencies are traded for hedging and speculative purposes. Corporate treasurers, private individuals and investors have currency exposures during the the regular course of business. Internet Encrypted Trade Platforms are an ideal platform to hedge any such exposure. An investor, who has bought a European stock and expects the EUR exchange rate to decline, can hedge his currency exposure by selling the EUR against the USD.
Currency markets are ideally suited for speculative trading. They offer very narrow spreads (0.02 percent) and high relative volatility (annualized volatility for exchange rates is in excess of 10 percent). The spread is the cost that a trader incurs when taking a position. The volatility is a measure of maximum return that the trader can generate with perfect foresight. For currency markets this ratio is approximately 500, which is spectacular - it indicates that a trader can generate high levels of profitability from trading currencies. This compares with a ratio of only 60 to 100 for the most liquid stocks. In other words, a trader can earn approximately 5 times more money from currency trading than equity trading assuming the same market expertise.
The foreign exchange market has a daily volume in excess of 1.5 trillion USD, which is 50 times the size of the transaction volume of all the equity markets taken together. This makes the foreign exchange market by far the most liquid and efficient financial market of the world. Thanks to its efficiency, there is little or no slippage of market price for the execution of even large buy and sell orders. Traders are able to take advantage of intra-day volatility thanks to the low spreads and enter positions for short time periods, such as minutes and hours. Unlike equity trading, where restrictions limit a trader's ability to profit from a market down turn, there are no such constraints on currency trading. Currency traders can take advantage of both up and down trends thus increasing their profit potential.
Who participates in the FX market?
Historically, smaller-scale, individual investors have had limited access to the FX market. Major banks, multinational corporations and other participants, trading in large transaction sizes and volumes, have dominated this market for decades. Technology however, has lowered the barriers of entry and opened up this attractive marketplace to a new breed of investors and speculators.
What is margin?
Collateral (could be cash, securities and/or unrealized profit) that an investor is required to keep on deposit to cover potential losses. If the margin requirement is 5% (as it is with FXTrade) and a trader wishes to buy $1 million USD/JPY, he/she must have $50 thousand US Dollars in value in his/her account (5% of $1 million or 0.05 x 1,000,000 = 50,000).
What is the bid? What is the ask?
Bid -The price at which buyers offer to buy currencies from sellers
Ask - The price at which sellers offer to sell currencies to buyers
What is a "pip"?
The smallest price movement available in an instrument. For example, USD/JPY 118.48/53 shows a 5 pip spread, and EUR/USD at 0.9517/22 also shows a 5 pip spread. For most currency pair quotes 1 pip is equivalent to 1 basis point (0.01%).
What does it mean to be "long" or "short" a position?
If a trader goes long USD/JPY, he/she buys USD and sells Yen. Buying a currency is synonymous with taking a long position in that currency. A trader takes a long position in a currency if he/she believes it will appreciate in value. If a trader shorts USD/JPY, he/she sells USD and buys Yen. Selling a currency is synonymous with shorting that currency. A trader would short a currency if he/she believes it will depreciate in value.
What is the difference between market and limit orders?
Market orders are executed immediately at the current market price. Limit orders are orders that a trade should be executed (in the future) when the market price reaches a specified price trigger. A limit order places restrictions on the maximum price to be paid or the minimum price to be received.
What is a price forecast?
Market orders are executed immediately at the current market price. Limit orders are orders that a trade should be executed when the market price reaches a specified price trigger. A limit order places restrictions on the maximum price to be paid or the minimum price to be received.
What is a "round trip" transaction?
Speculative currency trading is designated "round trip" because the positions will be closed (settled) within the same account and same account currency from which the trades originated.