What is forex market?

Last updated: 25.11.2021
Dominic Hawker
Author:
Dominic Hawker
Adviser
CFD & Trading
Experience
> 30 years

There are many different types of forex investors and many different forex market types to trade within. Forex market trading is the best way to access the global economy.

What is forex? Foreign exchange, commonly referred to as forex or FX, in a nutshell is the conversation of one currency into another – such as US dollars to Euros. With an average daily trade volume of $6 trillion dollars, this simple conversion is one of the most widely traded markets in the world.

Trade now commission-free

nextmarkets investors

  • What is forex trading?
  • How do forex markets work?
  • What is the forex market structure and size?
  • Who trades in forex markets
  • How to trade forex?
  • Why trade forex?
  • Conclusion

What is forex trading?

Converting foreign exchange is not just for practical purposes, like when you’re going on holiday to a foreign country and your local currency is not accepted, it can be converted and traded for profit too. The forex trading market is made up of a network of buyers and sellers in the form of individuals, companies, and central banks that transfer currencies at agreed prices.

Forex trading is a highly volatile market owing to the significantly high number of currency that is converted each and every day. Of course it is this very volatility that makes the forex market so attractive to traders looking for great profits.

The forex market differs from other markets like shares or commodities in that it is not traded on an exchange. Forex trading occurs in an Over-the-Counter market which means that trading is engaged directly between two parties.

The Forex market is truly global and there is no central trading location – The entire forex market is run by a network of international banks that operate over four major trading localities and time zones of London, Sydney, Tokyo and New York. Forex trading hours are expansive – without a central location, the Forex market open time is 24 hours, 5 days a week.

Best forex broker - nextmarkets

How do forex markets work?

The total forex market is made up of three distinct market types:

Spot forex market: This type of market involves “on the spot” trading – that is the exchange of a currency pair that is settled either at the point of trade or very shortly after. Spot Forex trading is the most popular forex market and the largest. The price of the currency pairs, such as to trade USD/JPY, is the immediately quoted price.

Forward forex market: The forward forex market involves a self-regulated contract to buy or sell currency at a specific price with the trade to actually be settled at a set date or range of dates in the future.

Future forward market: The future forward market is quite similar to the forward future market in that it involves a contract to buy or sell currency at a specific price and at a set date in the future. However, unlike the forward future market the future forward market contract is regulated and legally binding.

What is the forex market structure and size?

The basis for all technical analysis of the forex market is in the forex market structure. The forex market structure differs from other markets in that there is no real use of indicators or volume analysis. Instead, forex trading is based on price movement to identify trends.

The Forex market Structure differs greatly from other markets, such as the stock market, as there is no central exchange to determine price. A currency price quote in the forex market will differ between the many dealers. A market this large provides a great deal of competition – meaning it is easier to obtain a fantastic quote!

What is forex market size?

The daily forex market size is utterly massive. To start, there are over 180 official currencies in the world and in 2019, the daily trading volume of the forex market was recorded at $6.6 trillion. Since the forex market is spread across the globe in an OTC format, you can literally trade from anywhere. If you have an internet connection, you can trade forex!

An OTC market is determined by trading conditions, price attractiveness, and the reputation of the trading parties. There are a total of 28 major currency pairs traded in the global FX market and is made up of a combination of 8 major currencies. 

  •       USD (US Dollar)
  •       GBP (UK – Pound Sterling)
  •       EUR (Euro)
  •       CAD (Canadian Dollar)
  •       CHF (Swiss Franc)
  •       JPY (Japanese Yen)
  •       AUD (Australian Dollar)
  •       NZD (New Zealand Dollar)

Forex is traded as currency pairs – that is the value of one currency against that of another. For example an investor can trade GBP/USD.

The US dollar is listed as the most traded currency in the world with an estimated currency reserve trading volume of 63% in 2020. The euro is considered the second most popular trading currency with an estimated reserve trading volume of 20%. As you can imagine a very popular currency pair is to trade EUR/USD.

Liquidity & volatility

Liquidity refers to how active a market is and market activity is determined by how many traders are active and how much volume they are actively trading with. The forex market liquidity is very high since it is traded 24/5 with an incredibly high turnover – around $6 trillion a day.

Volatility is a measurement of market price movement or really, it’s a measurement of how drastic the market price movement is. Liquidity can have quite a large impact on the volatility of market prices and high liquidity more commonly results in a less volatile market because price movements are generally smaller.  

The incremental price movements in forex market liquidity are because such a large number of traders are trading at the same time but that doesn’t mean the market doesn’t have dramatic movement. Currencies can be dramatically affected by political, social, and environmental change and these changes can cause particular currency prices to become notably volatile.

This is why it is so important to follow the news and politics of the countries associated with the currency pair/s you have chosen to follow.

Who trades in forex markets

There are many players in the forex market and some major institutions are trading in forex.

Central banks

Central Banks are vitally important to the forex market as they represent the government of a nation. That means that interest rate policies and open market operations of a central bank have a significant influence on the currency rates of that nation.

It is the responsibility of a central bank to fix the price of its native currency on foreign exchange. Central banks take many actions to either stabilise the currency or attempt to increase the overall competitiveness of that country’s economy.

Investment and commercial banks

These are the biggest players, alongside central banks, in the forex market as they account for the greatest trading volume.  Investment and commercial banks conduct forex transactions for clients and also conduct their own speculative trading. Speculative trades are made to profit on market fluctuations and can provide diversification to a bank’s portfolio.

Hedge funds and investment managers

The second biggest player in the forex market is that of hedge funds and investment managers. Investment managers represent major financial accounts such as pensions, foundations, or endowments, and trade currencies to increase these funds.

Hedge funds make speculative currency trades as a component of their investment strategies. International investment managers will often buy and sell currencies in order to trade in foreign securities.

Individuals

Known as retail investors, individuals trade at very low volume when compared to the major financial institutions. Retail investors can trade with a forex calendar through brokerage firms, brokerage apps and trade based on trading fundamentals, such as inflation rates and policy expectations, and technical information, such as indicators and resistance). 

How to trade forex?

The easiest way to trade forex as a retail investor is to sign up to a broker such as nextmarkets. Brokerage companies offer training academies that can teach you how to trade currencies, provide assistance when engaging in forex trading, and even provide a forex calendar for major economic events.

CFDs

Contracts for Differences (CFD) is a form of trading in which a trader takes a position on whether the market value of a particular asset will rise or fall, rather than actually taking ownership of that asset. Think of it like betting on what the market will do!

A fairly new way to take advantage of forex price movements, CFD trading is typically engaged through forex brokers such as nextmarkets, and can be quite advantageous as a leveraged product. Since CFD’s offer large leverage, positions can be opened at a fraction of the trades full value – bigger risk but a significantly greater profit.

Why trade forex?

There are so many advantages to trading in the most traded market in the world. With such a wide range of markets, forex trading exposes traders to markets all over the world. But what are some of the best reasons to trade forex vs stocks?

  • Always open

Well almost… Since the forex market open time is 24 hours a day, every weekday, you can trade at your own convenience. You can work during the day and trade in the evening or vice-versa.  

  • Trade with less

You can engage in forex trading with leverage, if you so choose. Trading with leverage allows a trader to open a position with a fraction of the required capital. This can result in significant gains but be warned that trading with leverage can also dramatically increase your losses.

  • Ultimate liquidity

Forex market liquidity is so high that it makes it very easy for retail investors to enter and exit a position in mere fractions of a second. This speed means traders can respond to currency fluctuations almost instantly, thereby taking advantage of actionable prices.

Conclusion

There is little doubt why the forex market is the largest in the world – It is accessible to the largest range of investors, be they stay-at-home retail investors trading with leverage, or major financial institutions wielding great capital might. Almost anyone can take advantage of currency fluctuations in the global economy.

The forex market is open almost all the time and with a liquidity that affords traders the ability to respond instantly to price movement. Forex is a vital component of the global economy and with such a monumental global reach, forex trading allows anyone to gain exposure to markets anywhere in the world.

Forex market FAQs

💰What is Forex Market?

There are many unique markets and ways to invest in the global economy. The Forex market is an easily accessible market to individual retail investors looking to take advantage of one of the most popular types of trading in the world.

💹How Can I Enter the Forex Market?

The forex market can be easily accessed in several different ways and the method will vary depending on trading knowledge and requirements. 

💵What is Forex Market Liquidity?

Like many markets, forex has observable liquidity and volatility. Forex market liquidity changes constantly and is affected by several different factors.

Smarter Trading
  • Trade with Europe's commission free online broker
  • Receive up to 200 professional analyses per month
  • Trade more then 8000 shares, ETFs and other products
Start trading now
x