The Foreign Exchange market, or Forex as it is often referred to, was initially established as a way for businesses who deal in large amounts of foreign currency to easily exchange their money. Throughout the years, however, Forex has grown into a kind of commodities trading market, where the future performance of one currency is traded against the performance of a different currency.
Abbreviations such as EUR/AUD, for the ratio of the amount of Euros as expressed in Australian dollars, are common. The Forex market is an OTC, or over-the-counter market, meaning it has no central physical trading hub. It operates 24 hours a day between licensed Forex brokers and has different trading “sessions”, such as the European, Asian, or US session, depending on the specific time of the trade. In this way, the market can remain open at all hours: there is no standstill when it comes to currency trading.
The idea of making money purely from the changing relationship of different currencies can be somewhat confusing. However, if currencies are visualized as pure commodities, the mechanics behind the market become slightly easier to grasp. Much as the ever changing value of gold is measured in dollars, the ever changing value of different currencies is measured by comparing them to other currencies.
However, unlike other commodities markets, the Forex market is based on actual global fluctuations in currency, so correspondingly there are no “insiders”. The best traders are those who grasp the fundamentals of currency exchange, and are able to make intelligent guesses about the future value of currencies based on the overall global economy and trading behaviors. Because there is no official closing time, the market can react instantaneously to major events. Exceptionally savvy traders form partnerships with brokerages around the globe in order to keep on top of any developments and make the best trades.
Most of the movement in exchange rates is measured in PIPS, or percentage in points. PIPS usually refer to the 4th decimal of a currency pair, except in the case of Japanese Yen, in which case PIPS refer to the second decimal. If an investor purchases $100,000 Australian dollars worth of Euros, and the 4th decimal increases by 4 points, that?s an increase of 40 pips, which correspondingly translates to roughly $400 dollars of profit for the investor. A move of the decimal in the opposite direction is noted as a loss for that investor.
Those Forex investors who open an account in a particular currency will see their profit and loss statements summarized in that currency. In the above example, an Australian investor would see all of his profit and losses in Australian dollars, regardless of the currencies he chose to invest in.
