Forex markets deal with foreign currencies. By foreign currency we mean currencies that are not your national currency. If you are an American, then the USD is your currency. Any other currency other than the US dollar is foreign currency.
Because countries trade with each other, they pay each other in their currencies, or generally on an agreed currency. This trade of currencies goes on through the day and night, and throughout every day of the year.
The value of a currency depends upon various factors, such as economic stability, political stability, economic policies, market access, exports and imports, and many others.
Currency values against other currencies vary daily. When there is a sharp fluctuation between the rates that’s when one sits up and tries to find out what happened to cause it.
Currency, or forex trading is an highly speed intensive and intellectually draining experience. Further traders must constantly update themselves on the countries that constitute the market, or read up on various reports prepared by skilled economists or analysts, who predict, generally correctly, where a particular country is headed, and what their present position is. Currency, or forex trading exchanges currencies either on a daily basis, or by taking short or long positions, based upon the inputs received by each of the dealers in their respective countries.
This requires some explanation. Assume that ‘x’ country today has a shortage of dollars, because it is importing large amounts of capital equipment or goods and services. This capital equipment will have a gestation period of say six months. Thus, after this capital equipment is commissioned, and it starts exporting, obviously, the country is going to get more dollars than it has now. it can take a position with another country that on a particular day in a particular month, it will give that other country dollars for ‘a’ price. That’s a short position. Increase the period you have a long position. Meanwhile in between if the country which has taken this position undergoes some changes in politics, or economics, then that would drive down its currency value against a benchmark, which is generally the USD so far. However, if there is substantial inflow of investment going into a country, then that country’s currency shows up a lower value for the dollar. To wit, ‘x’ country’s ratio with the dollar was 35.50 per dollar; perked up by foreign investment and parking of dollars in that country, today that rate would be 33.00 against the dollar. That’s called appreciation of that country’s currency. if investment is streaming out, obviously the dollar would be stronger, because more of that country’s currency would be required to purchase one dollar!
In today’s free market environment, where most countries have liberalised their economies, the forex market determines the value of each currency against other currencies, that is, each country now allows their currency to find its own value, instead of having a fixed value as maintained by Governments before. Therefore, the foreign exchange market is much higher today, and deals with trillions and trillions of dollars, to put it mildly.
Generally the basket of currencies that dominate the forex market are the US Dollar (USD), the Great Britain Pound (GBP), the Japanese Yen (JPY), the Swiss Franc (SFR), the European Union (EURO), the Australian Dollar (AUSD), the Canadian Dollar (CAN). The words in the brackets show the symbols used in forex market trading. The currencies that do not figure in the basket of currencies are generally forced to convert their currency to one of the above, putting them at a disadvantage because of having to convert twice – twice to buy and twice to sell.
In earlier days, when communications facilities were not as good as they are now, there was a time lag between the rates because half the world goes to sleep every day, and others start working at that very time! In today’s world with excellent (compared to the past) communication facilities, and with the use of the internet, and specialized software available, currency or forex desks work around the clock throughout the year, making it easier and better to market, convert, buy and sell, at all times. In one way, this is good, because competition being always online, the buyer or seller can get a good bargain.
The one area of convergence with the stock markets is that of reports. Stock markets are driven by the results of the companies which have their stocks listed. In the case of forex markets, they are driven by reports from various sources of how their economy is doing, the long term forecasts, the delays in implementation of projects, the deficits that the Government is having, the inflation rate and so on. This may have been repeated in this article, because it bears repetition. You are aware of stock markets, but not of forex markets, hence the repetition.