In keeping up with its clarity principle, the international broker Octa clarifies one
aspect of trading at a time. Learn everything you need to know about currency
trading, simply and transparently.
In the world of finance, there are many trading markets and assets, each with its
own unique features. Today, we will explore the Forex market and how one can
profit from trading currencies. Whether you are a seasoned trader or a novice
stepping into the world of currency trading, understanding the intricacies of the
Forex market is pivotal to navigating its waters successfully and reaping financial
rewards.
What is the currency market (Forex)?
The foreign exchange market is a decentralised or ‘over-the-counter’ (OTC) market
that establishes the exchange rate for currencies worldwide. It is the world’s largest
financial market, consisting of a worldwide network of financial centres operating 24
hours a day, pausing only on weekends.
The diverse variety of currency pairs, coupled with the market’s inherent volatility,
offer numerous possibilities for traders to earn profits by speculating on the
fluctuations in currency values.
Trading volumes
The Forex market is known for its massive liquidity, being the largest financial.
market globally. According to the 2022 BIS quarterly review, trading volumes in this
market often exceed $7.5 trillion per day, allowing for constant buying and selling of
currencies.
Market participants
Various participants populate the Forex landscape, each with unique roles and
objectives.
● Retail traders. Individuals trade currencies aiming to profit from currency
price fluctuations. They typically use online brokerage platforms to execute
trading orders.
● Banks and financial institutions. They form the backbone of the Forex
market, providing liquidity and facilitating interbank trading. Major banks
help determine the exchange rates through their currency conversion
operations.
● Corporations. Multinational companies participate in the Forex market to
hedge currency risk and manage currency conversion for international trade
transactions.
● Central banks and governments. They intervene in the Forex market to
stabilise or increase the value of their national currencies and control inflation,
often influencing currency values significantly.
● Hedge funds and investment firms. These entities trade currencies as a part
of their investment strategies, often managing large portfolios and employing
complex trading techniques.
Forex trading contracts
Forex traders utilise several instruments to manoeuvre through the market
effectively:
● Spot contracts. The most straightforward and prevalent method where
currencies are traded for immediate delivery. It is precisely here that retail
traders mainly operate. However, retail traders can also use information about
operations derived from the derivatives market for making trading decisions.
● Contracts for differences (CFD). A CFD is a contract between a trader and a
broker to exchange the difference in value of an underlying asset, like a
currency pair, from the time the contract is opened to when it is closed. CFDs
offer traders high leverage, diverse global market access from one platform,
flexibility to capitalise on both rising and falling markets and the ability to
trade fractional positions.
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● Derivatives contracts.
○ Futures. Standardised contracts to buy or sell a specific currency at a
future date.
○ Options. Contracts granting the right, but not the obligation, to buy or
sell a currency at a predetermined price.
○ Swaps. Agreements to exchange currency pairs between two parties at
a specific time, based on the agreed-upon rate.
Major and minor currency pairs
In the Forex market, currency pairs are categorised into majors and minors.
Major currency pairs:
● EUR/USD (Euro/U.S. Dollar)
● USD/JPY (U.S. Dollar/Japanese Yen)
● GBP/USD (British Pound/U.S. Dollar)
● USD/CHF (U.S. Dollar/Swiss Franc)
● AUD/USD (Australian Dollar/U.S. Dollar)
● USD/CAD (U.S. Dollar/Canadian Dollar)
● NZD/USD (New Zealand Dollar/U.S. Dollar).
These major pairs are the most traded globally, characterised by high liquidity and
lower spreads due to the involvement of the U.S. Dollar. They constitute a significant
market share in the Forex market, and beginners often prefer them.
Conversely, minor currency pairs, also known as cross-currency pairs, do not involve
the U.S. Dollar. Examples of minor pairs include EUR/GBP (Euro/British Pound),
EUR/AUD (Euro/Australian Dollar), and GBP/JPY (British Pound/Japanese Yen).
Minors can offer diverse trading opportunities and allow for trading diversification,
but they often come with lower liquidity and higher spreads compared to majors.
Traders typically explore minor pairs as they accrue more experience and pursue
varying currency values and volatility levels.
The choice between trading major or minor pairs should align with the individual’s
trading strategy, risk tolerance, and comprehensive market knowledge.
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Types of analyses in Forex trading
Traders deploy a mixture of analysis methods to strategise their trading orders:
Fundamental analysis
● Central bank decisions. Traders pay close attention to central bank decisions
such as monetary policy changes, interest rate hikes, or cuts. For instance,
when the Federal Reserve signals a rate hike, it often strengthens the USD.
● Economic indicators. Releases like GDP growth, Consumer Price Index (CPI),
and employment figures, such as Non-Farm Payrolls in the US, are closely
watched.
● Geopolitical events. Situations like trade wars, elections, and international
disputes can drastically influence currency values.
Technical analysis
● Support and resistance levels. These are crucial price levels where a currency
pair tends to bounce back or retreat. Traders often set Stop Loss or Take Profit
orders around these levels.
● Chart patterns. Patterns like ‘Head and Shoulders’, ‘Double Tops’, or
‘Bullish/Bearish Flags’ can signal potential price breakouts or reversals.
● Indicators and oscillators. Apart from RSI, other tools like Fibonacci
retracement, MACD, and Bollinger Bands are commonly used to predict
potential price movements.
Sentiment analysis
● Volume data. Large spikes in trading volume can indicate strong interest in a
particular currency pair, suggesting a potential move.
● The Commodity Futures Traders Commission (CFTC) reports provide
insights into the positions of different market participants and can be a
valuable tool for traders to understand market sentiment and potential future
market movements.
● Market commentary. Prominent financial news outlets, influential traders on
social media, or large institutional bank forecasts can sway market sentiment.
Risks in Forex trading
The Forex market, while lucrative, is fraught with risks that traders need to manage
meticulously:
● Market risk. It arises from factors like geopolitical events, interest rate
decisions, and economic data releases, causing price fluctuations.
● Leverage risk. High leverage can magnify gains but can also exponentially
increase losses, leading to significant capital depletion.
● Operational risk. It involves risks related to technical failures affecting trading
operations.
To navigate through these risks, traders employ risk management strategies that
involve setting Stop Loss and Take Profit orders, and conducting thorough research
and analysis. A robust risk management strategy is pivotal in mitigating losses and
safeguarding trading capital.
Pros and сons of trading in the Forex market
Like any form of trading, currency trading has its own set of advantages and
disadvantages.
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Advantages of currency trading
● High liquidity. Enables seamless buying and selling, offering minimal
transaction costs and slippage.
● Accessibility. The 24/5 operating hours allow global participation at any time
during the weekdays.
● Leverage. Traders can control significant positions with a relatively small
amount of their own capital.
● Diversity. A large variety of currency pairs are available for trading, allowing
for diversified strategies.
Disadvantages of currency trading
● Risk of loss. High leverage also means amplified losses, requiring prudent risk
management.
● Market volatility. Sudden market movements can lead to substantial losses.
● Complexity. The myriad of factors affecting currency values necessitates a
deep understanding of market dynamics.
Currencies’ exchange rates are influenced by numerous factors, including interest
rates, economic data, political developments, and overall market sentiment.
Changes in inflation rates and differences in economic growth between countries
can also have substantial impacts. It’s important to assess and include those
different factors in your trading strategies.
Five tips for Forex trading
To thrive in the fast-paced Forex market, traders should embrace certain practices
and methodologies.
- Stay updated with Forex-specific news. The Forex market is highly
susceptible to geopolitical events, interest rate changes, and macroeconomic
indicators. Regularly updating oneself with Forex-centric news sources, such
as major central bank decisions, political events impacting key currency pairs,
and releases like GDP or Consumer Price Index, is crucial. These factors can
lead to volatile shifts in currency values, and staying informed can offer a
predictive edge. - Risk management. While it’s common advice to diversify, in Forex, this means
not over-leveraging oneself on a single currency pair, even if it’s a major one
like EUR/USD. Use Stop Loss orders to protect against rapid currency value
declines, and consider using Trailing Stops in a trending market to lock in
profits while maintaining some upside potential. - Start with Major Pairs. As a beginner, focus on major currency pairs. These
pairs, like EUR/USD or GBP/USD, are more liquid, have tighter spreads, and are
heavily influenced by macroeconomic news, making them slightly more
predictable. - Have a trading plan. Beyond the basics of setting goals and risk parameters,
a Forex trading plan should also consider the time zones of the currency pairs
traded. For instance, if trading the AUD/JPY pair, consider economic releases
from both Australia and Japan. The plan should also include strategies tailored
to Forex, such as scalping for short-term trades or swing trading for longer-
term positions. - Develop a personal strategy and maintain discipline. As you develop your
approach, consider the unique aspects of Forex, such as the 24-hour trading cycle he importance of leverage, and the influence of major economic
announcements. Moreover, discipline in Forex is not just about sticking to the
plan, but also about regularly reviewing and adjusting the strategy as the
market evolves and as you learn more about specific currency pair behaviours.
Conclusion
Currency trading in the Forex market presents vast opportunities intertwined with inherent risks. In this guide, Octa has presented the key aspects of the Forex market, providing a comprehensive overview of its structure, participants, and the various instruments and strategies that can be employed to navigate it effectively. Understanding the distinctive features of this dynamic market and the multitude of factors influencing currency values is crucial for both novice and seasoned traders aiming to achieve consistent profitability.
By embracing clarity and providing transparent, in-depth insights, Octa aims to equip every trader with the knowledge and tools they need to navigate the Forex market effectively and to make trading a rewarding experience. Whether you are stepping into the world of currency trading for the first time or looking to refine your trading skills, keeping up-to-date with the market dynamics, staying disciplined, and adhering to your trading principles are the keys to unlocking success in the fascinating world of Forex trading.
Octa is an international broker that has been providing online trading services worldwide since 2011. It offers commission-free access to financial markets and various services already utilised by clients from 180 countries with more than 42 million trading accounts. Free educational webinars, articles, and analytical tools they provide help clients reach their investment goals.
The company is involved in a comprehensive network of charitable and humanitarian initiatives, including the improvement of educational infrastructure and short-notice relief projects supporting local communities.
Octa has also won more than 60 awards since its foundation, including the ‘Best Online Broker Global 2022’ award from World Business Outlook and the ‘Best Global Broker Asia 2022’ award from International Business Magazine.
