Updated: Sep 23
Forex is a global market where the world’s currencies trade, also known as foreign exchange, FX or currency trading. As one of the largest, most liquidized markets in the world, none of the stock markets combined come close to the value of Forex. Trading on the financial markets can be exceptionally difficult if you don’t have the right knowledge of trading. If you want to take hold of financial independence, then you might want to consider learning more about Forex Trading and the concepts behind it. Here, we’re taking a closer look at what Forex Trading actually is, to give you a head start.
What factors affect Forex Trading?
Forex is traded 24 hours a day, 5 days a week by banks, traders and institutions across the world and unlike any other existing financial market, there is no centralised marketplace for forex to fall into. The entire global financial system is constructed based on a reserve currency – the US dollar. This is because all transactions made are finally cleared in dollars. The process involves buying one currency, and selling another at the same time. Traders attempt to make a profit buying and selling currencies by continuously making judgment on the direction currencies are likely to take in the near future. There are no business-related factors like customer relationship management, client handling, or even having to deal with anyone whatsoever when it comes to the trading markets, which is what helps to make this market attractive to the ambitious. There are however a number of other factors that can have a huge impact on the market and exchange rates in particular, including:
Inflation & Interest rates – Higher interest rates often lead to increased foreign investment. At the same, this has a knock-on effect to the demand of a country’s currency as a result of decreased the value of the dollar overtime. Generally speaking, a higher interest rate increases the value of a country’s currency. Not only do high interest rates attract more foreign investment, it also increases the demand for the currency. Essentially, when consumers pay less interest, they have more money to spend, which can result in increased spending in the economy.
Current-Account Deficits – An increase in current-account deficits result in a devaluation of the exchange rate. If there is a reduction in the exchange rate, that country will be target to a drop in the foreign price of exports. The market will become more competitive and there will be a significant rise in the amount of exports. If the demand for exports is settled, the reduction will lead to an increase in the value of exports, and improve the current-account deficits. Likewise, a reduction of the exchange rate will lead to an increase of the cost of purchasing imports which will lead to a lack of demand for these products, but will help to lower the current-account deficit.
Public Debt – Also known as government debt, public debt is the amount owed to lenders. A large increase in national debt results in the government borrowing more from the private sector. It is only when market(s) are 100% confident that the countries government is able to repay the debt, will they let them borrow. However, if the market(s) begin to worry because the borrowed amount is getting too high, investors will break government bonds and invest elsewhere.
Terms of Trade – The terms of trade are related to current accounts and BOP. The Balance of Payments summarize an economy’s transactions against the rest of the world within a specific period of time used to identify all transactions made between residents and non-residents of a country including, financial claims, income, services and goods. If the price of a country’s exports increases more than that of its imports, the terms of trade have improved. Increasing terms of trade suggests that there is more demand for a country’s exports. As a result, this also increases revenue gained from the exports made, which increases the currency’s value due to demand.
Political Stability – Let’s take Brexit for example. If we assume that a trader has confidence that things could go wrong for the EU, now that the United Kingdom has voted to leave, it will automatically lead to a lower-value currency, resulting in a weakened Euro. Therefore in theory, the trader (whoever they might be) will look to the Forex market and sell on the currency.
What do I need to know about Forex Trading?
If you’ve been on holiday overseas, you have made a forex transaction – maybe without even realising. When you convert your pounds into euros the rate between the two currencies is entirely dependent on supply and demand at that moment. The rate will determine how many euros you receive, in exchange for your pounds, which is why one pound could convert to 1.10 euros on Thursday, but on Friday convert for one cent less. Although one cent might not put you out of pocket, if a large international company needs to pay overseas employees, the difference adds up quickly.
Forex traders do not make large profits straight away. Successful forex traders spend enough time researching the markets, considering some forms ofnetworking to learn the tricks of the trade, before playing trades to ensure they are subject to stable gains. Soon enough, these ‘small’ gains add up to be generous profits with potential to secure long-term trading involvement. Choosing the correct forex broker is just as important. Forex Trading is accountable for endless opportunities, used to make a return on investment, which is why signing up with a reputable broker who is fully licensed, professional and is able to provide unprecedented support is crucial for your success. Remember that there is no such thing as ‘insider trading’ when it comes trading within forex market.
The Bottom Line
The value of a currency can change at any time. Whilst economic factors will always impact the currency values, traders should try to rely on those that are secure and focus on countries that have a solid financial system operating. Trading currencies located in third world countries increase the risk of losing money. Forex trading is just one great way of generating stable income, despite the factors affecting the value of currencies.