What is FOREX

Forex, also known as currency market and FX, is a global decentralized foreign exchange market for currency trade which determines the relative value of various currencies. This currency market has some unique features that set it apart from other financial centers: geographic dispersion; high liquidity because of the large trading volumes; non-stop operation except during the weekends; use of leverage to boost profit margins with regard to account size; a large number of factors affecting the exchange rates; and comparatively low margins of profit in view of other fixed income markets.

The main function of Forex is to facilitate investment and international trade by allowing companies to convert and work with different currencies. A German-based business, for example, may import US produce and pay in US dollars although the income it receives is in Euro. At the same time, the currency market makes speculation and the carry trade much easier. With carry trade, individuals are able to borrow in a low-yielding currency and invest or lend in a high-yielding currency. In come countries, this practice has led to a reduced level of competitiveness on the market.

Normal foreign exchange transactions take place with one party buying a certain quantity of a currency and paying for it with a different currency. In its present form, the foreign exchange market was gradually developed in the 70s when states started switching from the exchange rate regime to floating exchange rates.

The foreign exchange market is somehow different from the stock market as it has various level of access. The inter-bank market is at the top, comprising of the bigger security dealers and commercial banks. The levels of access depend on the money volumes traded on them. Over fifty percent of all transactions take place on the top-lever inter-bank market. Other players are the smaller banks, hedge funds, multi-national corporations, mutual funds, insurance companies, retail metal market makers, and various institutional investors. In order to align their currencies with some specific economic requirements, the central banks of states also participate in Forex. In doing that, the central banks aim at controlling inflation, the interest rates, and the money supply in the country.

It has been estimated that up to ninety percent of all transactions on the foreign exchange market have a speculative character. In simple words, the institution or individual that buys or sells a particular currency does not intend to use it at all. The sole aim of speculators is to make profit out of the movement of this currency. Hedge funds, in particular, have become particularly infamous for their speculation with currencies since the 1990s. Having control over billions in equity, hedge funds may be able to overwhelm interventions by the central banks, aiming to support national currencies. Some economists claim that speculation has a stabilizing impact on the market performance, transferring risk from the players who don’t wish to take it to the ones who do. While position traders such as some large hedge funds are the key speculators, individual traders may play the role of noise traders. Thus, they can have a destabilizing impact on the market.