What is Forex Trading?
If you have ever wondered what is forex trading, then this article is for you. With all of the hype surrounding Forex Trading we thought it would be a good idea to provide some basic knowledge about what Forex Trading is, and also what it is not.
With all the false advertisements on the internet and in social media it’s easy to get the wrong idea about Forex Trading. As a result, the Forex Industry has become synonymous with things like gambling. However, the truth is that Forex Trading has nothing to do with gambling.
In this article, we will try to explain the core basics of what Forex trading is in very simple terms. Consequently, we hope that with reading the info in this article you should be able to better understand what is Forex trading.
What is Forex?
In order to understand what Forex Trading is, we need to start by looking at what exactly Forex is….
The word Forex is an abbreviation for the phrase foreign exchange. Every country in the world has different currencies. Australia uses the Aussie Dollar (AUD), South Africa uses the Rand (ZAR), and United States has the US Dollar (USD) etc.
People interact in the Forex Market every single day without even realising it. If we wanted to buy something from another country, we would need to exchange our own currency for the currency of the country we wanted to buy from.
Let us suppose for a moment that the exchange rate of the USD versus the ZAR is 10.00…That means, it will cost me 10 ZAR for every 1 USD that I need.
Furthermore, let us also suppose that we want to buy a book from the USA for a value of $100, but we live in South Africa. That means, we would need to exchange R1, 000.00 (ZAR) in order to get the $100 (USD) we need to buy the book.
When I want to buy anything from another country, I need to exchange my ZAR for the currency of the other country. Thus, in simplified terms, Forex refers to the exchange of currencies.
What is the Forex market?
Now that we know what Forex is, we can take a look at the Forex Market. The Forex market is a decentralized market where currencies are exchanged with each other. Currencies are traded every second of every day by a global network of traders. The Forex Market is estimated to have an approximate daily trading volume of $5 Trillion USD. As retail traders, we trade in the spot forex market which is estimated at $2 Trillion per day.
To put this into perspective, the New York Stock Exchange has approximately $74 Billion USD trading volume per day. Why does the massive daily trading volume in the Forex Market matter? The high trading volume means more liquidity. The higher the liquidity, the cheaper it is to trade and the easier it is to get in and out of trades.
What is Forex Trading?
Now that we know what Forex and the Forex Market is, we can take a closer look at Forex Trading. In short, Forex Trading is the speculative buying and selling of currencies. In Forex Trading, we never actually physically own any of the currencies that we trade with. Instead, we place speculative trades on whether the exchange rate between certain currencies will go up or down. Thus, we never trade single currencies at a time. We trade currencies in Pairs, also known as Currency Pairs.
In Forex Trading we always trade currencies in pairs. For more information on what Currency Pairs are see our article How to Trade Forex. Below is an example of the most popular Currency Pair known as the EUR/USD.
Buying and Selling
We can BUY and SELL currency pairs in Forex Trading. We can profit when the market is moving up and when it is going down. Furthermore, when we buy or sell a currency pair, we are actually buying the one currency and selling the other at the same time.
As stated above, we never actually own the currencies that we are selling or buying. We are merely spread betting or speculating on whether the future exchange rate between those two currencies will go up or down.
How Profits & Losses are made in Forex Trading
So how exactly are profit and losses made in Forex Trading? Let us take an example using the EURUSD currency pair…Let us assume that we have placed a buy trade on the EURUSD currency pair. That means, I am buying Euros and selling USD at the same time. Correspondingly, when I sell the EURUSD currency pair, I am selling Euros and buying USD at the same time. This means by buying or selling I am merely speculating whether the exchange rate between the Euro and USD will go up or down.
In simple terms, Forex Traders speculate whether the exchange rate between two currencies will go up or down. Let us suppose a trader speculates that the value of the Euro will increase against the USD. The trader will buy Euros and sell USD and profit when the exchange rate moves in their favour. When the exchange rate does not move in their favour the trader loses their trade or loses the money they risked on that specific trade.
It is a bit more complicated and technical than that. However, the aim of this article is to give a broad idea.
Changes in the Exchange Rates
A lot of people do not understand how people actually make money in Trading Forex. The idea is quite simple once you understand the basics.
As we now know, Forex Traders speculate whether the exchange rate between two currencies will go up or down. That means, as traders, our main goal is to analyse the markets to find currencies that are gaining strength and trading them against currencies that are losing strength.
Let us suppose that the exchange rate for the USDZAR is currently 10.00. That means that 10 ZAR is worth exactly 1 USD. Now let us also suppose that I decide to exchange my $100 at a cost of R1000.
However, after we bought or exchanged the $100 at a price of R1000 the USDZAR exchange rate increased from 10.00 to 15.00.
The exchange rate that increased from 10.00 to 15.00 means that my $100 is now worth R1500 if I convert it back to ZAR. Thus, if I now choose to sell my $100 at the new exchange rate I have made a profit of R500.
Now, even though that was simple, the intricacies of how profits are made in Forex is more tricky than that. However, this should get you off to a good start.
What Forex Trading is not
Forex Trading is not gambling
Answering the question of what is forex trading would not be complete without also looking at what Forex Trading is not. Firstly, Forex trading is not gambling. Furthermore, Forex Trading is not a get rich quick scheme. Unfortunately, false advertising and scammers has given Forex trading a very bad reputation. As a result, people normally associate Forex Trading with gambling or get rich quick schemes. This is very far from the truth.
So what is Forex Trading if it is not gambling? We have already read above that Forex Trading is the speculative buying and selling of currencies. Just like any other speculative investment there is always associated risks. People need to be aware that it is possible to lose all of your capital with a single Forex trade. This is especially true if you do not follow proper risk and money management.
Unlike gambling, Forex Traders take calculated risks by relying on statistical probabilities to determine trades. That is another way of saying we do not rely on luck! Moreover, unlike gamblers, Forex Traders does not rely on hope. Likewise, Forex Traders does not place a trade and simply hope for the dice to roll in our favour. Successful Forex Traders take trades in line with probabilities and work hard to minimize their risk wherever they can.
Forex Trading is not easy
Please do not believe the scammers on the internet that try to sell Forex Trading as something easy. Forex Trading has never been easy and it will never be easy.
Just like any other career, it will take lots of time and commitment to trade successfully. Do not underestimate the complexities of trading the financial markets. If it was easy, everybody would be doing it.
Forex Trading is a sow and reap endeavour. If you are not willing to sow the necessary time and commitment you will not reap the rewards. All the knowledge in the world will not help you if you do not know how to apply it.
We hope the information we provided here has been able to briefly explain what is Forex Trading. It can be a very lucrative and exciting investment for those who are able to master it. However, being successful in Forex Trading will require very hard work and commitment.
As always, our advice is to make sure you invest in good Forex Training before trading with real money. Feel free to visit our website and our blog section for more helpful articles and to learn more about what is forex trading.
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