How does forex trading work?
In the global foreign exchange market - called foreign exchange, forex or FX - all market participants trade together or with each other. Like a giant neural network, all market participants are electronically interconnected and trade currencies directly or indirectly through financial instruments such as options or currency swaps.
The most liquid market in the world, with a daily turnover in some cases of several trillion US dollars, is primarily characterized by direct trading in the largest currency pairs such as EUR/USD, USD/JPY, GBP/USD, and USD/CHF. These currency pairs are also called majors.
The currency transactions of the market participants are based on selling or buying one currency against the other.
Reasons for currency trading
When it comes to buying and selling interests, there are the most diverse reasons. After all, there are not only speculators who bet on the rise or fall of an underlying asset, but also companies that carry out transfers from one currency to another in large sums.
Institutional market participants such as banks, hedge funds, or investment funds pursue the achievement of large price gains. To do so, they exploit interest rate differentials between two currency areas or the economic upswing in one currency area. In this way, they bet on falling and rising currencies in order to reap billions in profits.
On top of that, the central banks of the respective currency areas control the exchange rate of a currency pair, sometimes considerably, through the interest rate structure or interventions in the foreign exchange market.
The course of the foreign exchange trade
Currency exchange process
All market participants trade directly and indirectly on the foreign exchange market. Individuals who pick up US dollars at the bank are already indirectly participating in the foreign exchange market.
However, from a trading point of view, participation begins with opening a position in a currency pair on the Foreign Exchange (FX).
This can be done by means of a leverage certificate or warrant. However, it usually means opening a position by means of a trading account with a Forex broker.
Example:
A long position is opened in the EUR/USD currency pair. The investor thus bets on a rising euro against the US dollar. Thus, he will make profits when the euro is rising and losses when the euro is falling.
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