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Currency Trading |
Unlike the trading of stocks, futures or options, currency trading does not take place on a regulated exchange. It is not controlled by any central governing body, there are no clearing houses to guarantee the trades and there is no arbitration panel to adjudicate disputes.
The cash in your wallet and money in your savings account are in U.S. Dollars. The value of your mortgage, stocks, bonds, and other investments are expressed in U.S. Dollars. In other words, unless you are among the few Americans who have foreign bank accounts or have bought a modest amount of foreign currencies or securities, you are an investor of U.S. Dollars. Your purchase of stocks, bonds, and other investments, along with money deposited into your bank account represent investments that rely heavily on the integrity of the value of the currency in which it is denominated, the U.S. Dollar.
Due to the increasing and decreasing value of the U.S. Dollar and the resultant fluctuation in exchange rates, your investment portfolio may have experienced changes in value, thus affecting your overall financial status. With this in mind, it should be no surprise that many shrewd investors have taken advantage of the fluctuation in exchange rates using the volatility of the foreign exchange market to trade currencies and put more money in their pockets.
Forex Market
The foreign exchange market is a cash interbank or interdealer market. Foreign exchange, however, is not a "market" in the traditional sense since there is no centralized location for trading activity. Trading occurs over the telephone and through computer terminals at thousands of locations worldwide. The direct interdealer market consists of dealers with currency settlement capabilities trading as principals. It is this dealer segment of the market that is responsible for generating a large portion of the overall foreign exchange volumes. Trading between dealers creates the largest turnover in the market, making foreign exchange the most liquid of all markets.
The foreign exchange market has experienced many changes since its inception. For years, the United States and its allies, under the Bretton Woods Agreement, participated in a system in which exchange rates were tied to the amount of gold reserves belonging to the nation. However in the summer of 1971, President Nixon took the United States off the gold standard, and floating exchange rates began to materialize. Today, supply and demand for a particular currency, or its relative value, is the driving factor in determining exchange rates. Decreasing obstacles and increasing opportunities, such as the fall of communism and the dramatic growth of the Asian and Latin American economies have created new opportunities for investors.
Importance of Currency Trading
Increasing trade and foreign investment have made the economies of all nations more and more interrelated. Regularly reported economic figures around the world, such as inflation or unemployment levels, as well as unexpected news, such as natural disasters or political instability, alters the desirability of holding a particular currency, thus influencing international supply and demand for that currency. The U.S. Dollar, therefore, fluctuates constantly against the currencies of the rest of the world. The current web of international trade and the resultant fluctuations in exchange rates have created the world's largest market---the foreign exchange market, a market whose vast size makes it the most efficient, fairest, and liquid of all markets.
Trading approximately USD 1.5 trillion every day, the foreign exchange market is the largest financial market in the world. Traditionally, the foreign exchange market has only been available to banks, money managers, and large financial institutions. Over the years, these institutions, including the U.S. Federal Reserve Bank, have realized large gains via currency trading. This growing market is now linked to a worldwide network of currency traders, including banks, central banks, brokers, and customers, such as importers and exporters. Today, the foreign exchange market offers opportunities for profit not only to banks and institutions, but to individual investors as well.
A proficient trader employs both technical and fundamental analyses prior to entering any trades. Fundamentals include watching the world news, and particularly studying variables that may cause the market price of a currency to fluctuate, including monetary and fiscal policy, political conditions, trade patterns, economic indicators (i.e. GDP, CPI, PPI), interest rates, inflation and unemployment numbers. Faith in a government's ability to stand behind its currency also impacts currency price. From time to time, central banks use intervention as an effective method of enforcing market adherence to their desired exchange rate comfort zones. Technical analysis, which has grown dramatically in popularity in the foreign exchange market since the 1980's, involves computer charting, using trend lines, support and resistance levels, reversals, and numerous patterns and analyses to study the behavior patterns of market crowds to track and identify buying and selling opportunities. Over long historical periods, currencies have displayed identifiable trends and patterns which provide investors with profitable opportunities.
It is the trader's option to take either a conservative or a more risk-taking approach. Employing conservative approach, the trader establishes and liquidates positions quickly and efficiently to capitalize on even the slightest of price fluctuations, using limit and stop orders to manage risk. A limit order is placed to ensure a position is established once a price level in the market has been reached. A stop order is placed to automatically liquidate a position at a chosen price level in order to limit potential loss on a particular trade. By placing orders in relation to technical support and resistance levels, trader may profit incrementally from the minor price fluctuations that occur each day.
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