What Is Forex? And Is Forex Trading Profitable?

What Is Forex?

“Forex” stands for foreign exchange. Forex is the largest financial market in the world; much bigger than the stock market of any country and larger than all stock markets put together.

Trillions of dollars change hands on a daily basis in the forex market. Even with its immense size, the forex market is not well known by many traditional stock market investors. With the creation of the Euro and a worldwide push for globalization however, it is important that investors and traders become aware of the the forex market and its advantages.

Established in 1971 when floating exchange rates began to take shape, forex is a cash Inter-Bank or inter-dealer market. Today, forex trading has expanded from professional trading floors to home computers. Simply put, forex trading is the exchange of one currency for another. But is forex trading profitable?

Can You Get Rich By Trading Forex?

Unlike the stock market, foreign exchange offers equal opportunities to make money in both rising and falling markets. Even in comparison to the daily trading volume of the Unites States Treasury Bond market ($300B), which is much greater than that of the U.S. Stock markets, the forex market is humongous.

In September 1992, the Wall Street Journal estimated that the forex market generated $1 trillion per day in trading volume. By 1998, this estimate had grown to $1.5 trillion and by the year 2001, a 3.5 trillion dollar level was common. Even though the US stock market became really popular in the early to late 90’s due to the “never ending” bull market, the forex market has remained the leader by sheer size.

While US stock market has suffered huge losses and experienced diminishing trading volume from 2000 to 2002, forex has remained a strong and liquid market, with trading activity sustained even throughout terrorist attacks and world crisis. Today, the forex market continues to pick up momentum.

Spot trading activity between the US Dollar and the four major currencies (Euro, Japanese Yen, British Pound, and Swiss Franc) is the most important activity in the foreign exchange market. Nowadays, forex trading is no longer restricted to banks and very wealthy investors.

How Much Money Can You Make Trading Forex?

It is now accessible to the everyday investor and short-term trader. Activity within the forex market is now divided into central banks, commercial banks, other financial institutions, corporations, forex brokers, and independent currency traders who treat forex as a home-based business.

Forex is more of an over-the-counter or OTC market than a real a “market” in the traditional sense of the word. This is because the forex market is not centralized in any location, unlike the currency futures market. Forex trading occurs electronically via computers and telephones at thousands of established locations as well as from the homes of individual traders who treat forex as a business.

Advantages Over Stock Trading and Futures Trading

Until recently, day traders have focused their efforts predominantly in the stock and futures market, despite the fact that the foreign currency market (also know as the forex market) is by far the largest and most liquid financial market in the world. The reason for this has been mainly the restrictive nature of currency trading services offered by banks.

Forex Trading USA offers both online currency trading and traditional phone currency trading services to the everyday investor. Only $5,000 are required to open a currency trading account.

Foreign exchange market trading occurs over a 24 hour period picking up in Asia around 23:00 GMT (6:00 PM EST) Sunday evening and coming to an end in the United States on Friday around 22:00 GMT (5:00 PM EST). So, whether it’s 6 PM or 6 AM, somewhere in the world there are buyers and sellers actively trading foreign currencies. Traders involved in currency trading can always respond to breaking news immediately.

Although after-hours trading in stocks can be achieved via ECNs (electronic communications networks) and in futures via electronic systems like Globex, the prices can be uncompetitive since the liquidity is often low.

For foreign currency trading this is not the case. The currency trader can get tight spreads around the clock and can thus pick and choose whatever trading hours are the most convenient for him.

Little Money Needed To Start Day Trading Currencies

Day trading currencies requires a lot less starting capital than day trading stocks. To day trade stocks a day trader needs at least $25,000 by US law, otherwise he is restricted in the number of daily transactions he can make.

This restriction does not exist in the online currency trading market. You could open an account with us with as little as US$5,000 and get free online training live. Currency day trading is the best option for a serious day trader.

No Commissions

Online discount brokers typically charge anywhere from $5 to $30 a stock trade. Full-service brokers usually charge $100 or more for each stock transaction. Futures trades can be from $10 to $30 a round turn. Forex trading with Forex Trading USA is commission free! Thus, investors involved in foreign currency trading could limit the cost associated with trading.

Lower operation fees

To be a serious stock day trader, a person needs a direct access trading system. These systems can cost from about $250 to $400 or more a month. Currency trading can be done through a sophisticated online system for free. Our Forex Trading USA trading platform is top-of-the-line and has the same (or more) features that quality stock trading systems provide. The main difference is that our currency trading system is free.

Tighter Bid/Ask Spreads

If we compare our currency trading platform’s typical spread of 3 pips on a the EUR/USD currency pair to a stock transaction, we could see how online currency trading could offer tighter spreads than stocks. A 3 pip spread (0.0003) on 1 lot (100,000 per lot) is $30. If a stock trader trades a stock with an average price of $25 a share, he would have to trade 4,000 shares to reach the 100,000 value of one currency lot.

Assuming the stock is very liquid, the spread would vary between 0.01 to 0.02 or more per share throughout the day. This is equivalent to $40 to $80 per transaction, much higher than for our currency trading example.

Superior Margin Requirements

Our 100:1 margin (1%) requirement for foreign currency trading allows a trader to control $100,000 worth of currency for only $1,000. This is much higher than the requirement for stocks and futures. The typical requirement for stock trading is 2:1 and 15:1 for futures trading.

The substantial leverage available in the foreign currency market is essential because the average daily move of a major currency is less than 1%. While certainly not for everyone, the substantial leverage available from online currency trading firms can be a powerful, moneymaking tool if applied while following a discipline trading style with strict money management principles.

Superior liquidity in the currency markets

The foreign currency trading market has a daily trading volume that is larger than that of all the world stock markets put together. This means that there are always currency broker/dealers willing to buy or sell currencies in the forex markets.

Consequently, price stability is assured, especially for the major the major currencies. Currency traders can almost always open or close a position at a fair market price; a key advantage of currency trading.

Because the stock market and other exchange-traded markets only have a fraction of the volume of the currency market, these investors run a greater risk of having wide dealing spreads or large price fluctuations while trading.

No Limit up / limit down in the currency spot market

Under certain price conditions, the number and types of transactions that a futures trader can make are limited. The futures market restricts a trader from initiating new positions and only liquidating existing ones, if the price of a specific currency rises or falls beyond a specific predetermined daily level.

This is an artificial way to control daily price volatility. This mechanism is meant to control daily price volatility, but since the futures currency market follows the spot currency market anyway, the next day the futures price can gap up or gap down to readjust to the spot price.

In the foreign currency spot market these artificial restrictions are nonexistent, so the trader can trade freely without limitations, applying his trading strategy with stop losses to protect himself from unexpected price fluctuations caused by high volatility.

No short-selling restrictions in currency trading

There are no restrictions to sell currencies short, unlike stocks which have to be sold short on an Uptick rule. This means that with currency trading you can make money just as easily in rising and falling markets. This advantages is especially attractive to currency day traders who want might want to sell a currency short quickly, without any possibility of the trade being delayed by artificial means.

All of these advantages make currency trading superior to stock and futures trading in may ways.

Forex Origins: Why Does Forex Exist?

How did foreign currency exchange come about? The foreign exchange market that the retail currency trader knows today, has been shaped by a long history of global historical events. Consequently, studying the history of foreign currency exchange can be a lengthy and time consuming process.

Although important for cultural and historical reasons, a detailed study of specific historical events like the Bretton Woods accord and the Smithsonian Agreement is not very useful for the modern foreign currency exchange trader. It is more important for a trader that is considering foreign currencies, to understand the logic behind foreign exchange as an efficient medium of exchange for goods and service.

The barter system was originally used by our ancestors as a means of exchange. Bartering was inefficient as an exchange mechanism because it required that a lot of time be spent in negotiation to strike a deal. Also, much time was needed to search for the goods required for bartering.

The barter exchange system was eventually enhanced by the public acceptance of standardized sizes and grades of metals like gold, silver and bronze for the exchange of merchandise. This metal currency for exchange had many advantages including durability and storage. During the middle ages, a variety of paper IOU’s started gaining popularity as a medium of exchange.

Throughout the years, people began to realize that carrying around paper currency was a lot more advantageous than carrying heavy bags of precious metals. Consequently, stable governments eventually adopted paper currency and backed its value with gold reserves.

This led to the birth of the gold standard. On July of 1944, the Bretton Woods Accord pegged the US Dollar to gold at a price of $35 per ounce. The Bretton Woods Accord also fixed other foreign currencies to the dollar. It lasted until 1971, when US president Nixon let the dollar “float” freely against other foreign currencies and suspended the conversion to gold.

As we fast forward to the present, the foreign currency exchange market has grown into the largest financial market in the world, with an aggregate daily volume of 1.5 trillion dollars or greater. Even though foreign exchange has traditionally been an institutional (Inter-Bank) market, the growth of the Internet has propelled online currency trading among private individuals to the stratosphere, widening the retail currency trading market considerably.

Author: Matt Hill

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