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What is foreign exchange trading?

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1What is foreign exchange trading? Empty What is foreign exchange trading? Mon Aug 31, 2015 10:57 pm



Foreign exchange trading is the buying or selling of one currency in relation to another. Since all currencies are priced differently, this price difference can result in profit as the values of the currencies change. The FX market is estimated to have a turnover value of over $5 trillion a day.

This is the result of individuals, companies, banks, funds, and governments buying and selling global currencies all day every day until Friday close at 1700 ET and reopens Sunday 1700 ET. This turnover can be the result of import/export activities, hedging against currency risk, or speculating on the change of currency values. Since you can normally exchange currencies through an exchange office or bank, this type of trading is not centralised in a major national exchange like stocks or futures.

This setup makes it extremely flexible, customisable, and accessible. How do I trade currencies? Trading currencies is the buying of one currency and selling another. ROYAL only offer Margin FX products which do not result in the physical delivery of the currency but are cash adjusted or closed by you by taking an offsetting position. When a certain currency is considered ‘cheap’ you can buy that currency in relation to another in the anticipation that it will increase in value after which you can sell it again.

This also works inversely if the currency is considered ‘expensive’. Currencies are traded in pairs. The first currency in the pair is called the Base currency and is the currency you are either buying or selling. The second currency of the pair is the counter currency that you are trading against. For example, buying the EURUSD means you are buying the EUR and selling the USD. 

For example, if the EURUSD is currently trading at 1.3200, this means each Euro is equal to USD 1.32. If you anticipate the value of the EUR in relation to the USD to increase, you can execute a Buy order at this price, meaning you are buying EUR and selling USD. Let’s assume the price of the EURUSD increases to 1.3300; this means that now each Euro is equal to USD 1.33 and you have made a profit. The most traded currency pairs are USD, EUR, GBP, CAD, CHF, JPY, AUD and NZD. 

What is the spread? 

When you exchange currencies at the exchange rate, you are usually quoted two prices, the Bid and the Ask. The Ask is the price at which you buy a certain currency and what the market is willing to sell at . Consequently, the Bid is the price at which you sell the currency and what the market is offering to buy it from you. The difference between the Bid and the Ask prices is the spread.

This difference occurs because the Ask price is always higher than the Bid price. Imagine you bought a new car for $20,000 and drove it around for a week before deciding to sell it. Logically you would never be able to sell it for the same price or higher. In this scenario, the difference between the buying and selling price is the spread. The same principle applies to the markets at the moment you execute.

The actual value of the spread depends on the supply and demand in the market at that moment for the currency in question. The higher the demand, the narrower the spread, and vice versa.

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