Looking to invest in currency but don’t know where to start? Feeling intimidated by industry jargon? Read on and start your journey to becoming a FOREX trader!
FOREX is just a contraction of foreign exchange, referring to the foreign exchange market. It is the largest market in the world, with more than $4 trillion passing through it every day!
How does Currency Investment work?
At it’s simplest, it means buying the currency of one country whilst selling that of another. This normally happens in pre-established pairs, for example buying USD whilst selling GBP.
Currencies are normally grouped into the following pairings:
- Major Pairings – This is the currencies that get traded the most such as: British pounds (GBP), the U.S. dollar (USD), euros (EUR) and the Japanese yen (JPY).
- Minor pairings – This is any pairing that does not include USD.
- Exotics – When a major currency is paired with an unpopular one. Picture GBP with Turkish Lira TRY, for example.
- Regional Pairings – When currencies from the same geographic region are paired, for example, EUR and GBP.
How to invest in currency – the details
FOREX trading is conducted through the foreign exchange market, which is mostly managed by banks. This is known as an over the counter market (OTC) meaning trading is decentralised from a formal exchange. The foreign exchange market is live, meaning all trades can be conducted digitally 24/7.
This is typically accomplished through the use of a broker: a company or firm that acts as a middleman for an investor’s trades. A broker’s job is to keep abreast of the market in order to provide investors with up to the moment market intelligence. They may also provide research and investment plans, making their money off of any deals or trades made.
There are 3 ways of trading foreign currency:
- Spot trading – When the buyer and seller trade at the “spot rate” meaning the present market value. Think of this as an “on the spot” trade.
- Forward trading – Buying or selling currency at a set price and date in the future.
- Future trading – Buying or selling currency at a set price during the period of a fixed contract.
Differences between forward and future trading
Futures contracts are traded on exchanges, which means they are standardised contracts, whereas forwards are private, with the chance of either party defaulting. Futures contracts are also more certain as they use clearing houses which guarantee transactions take place.
Understanding pairings is essential when learning how to invest in currency.
When buying a pairing you expect the base currency to go up in value. When selling a pairing, you sell the base currency and buy the quote currency.
You also hope the base currency drops in value so you can buy it back cheaply. The base currency shows how much of the quote currency you need to get one unit of the base currency.
Bid, Ask and Spread
The bid is the price a broker will buy a currency from you and the ask is the broker’s asking price for a currency. The spread is the difference between the two.
Here is an example:
EUR/USD = 1.2545/1.2572
The first number is the bid, the second is the ask. In this pairing the broker pays you 1.2545 USD for 1 EUR. You then pay the broker’s asking price of 1.2572 for 1 USD.
How to invest in currency? Do your homework!
FOREX trading is a complex and quickly moving world, the best thing you can do to ensure your success is to keep reading. Follow links, chase down those rabbit holes of endless jargon, and don’t be impatient – Rome wasn’t built in a day!