Basic Lesson in Forex
What is Forex? What affects the Forex rate? And what are some of the most common terms used in reference to Forex?
Forex is short for foreign currency exchange. Forex markets are foreign exchange markets where currency is traded. For most people, currency changing is simply a matter of dropping off American dollars and picking up Euros. However, there are traders who try to buy currency or options in the hope that the currency ratio radically changes, making money off the devaluation or deflation of a currency.
Types of Currency Exchanges in Forex
Crawling peg or sliding peg exchange rates have limits in the currency exchange market. These currency exchange limits are called corsets. Managed float occurs when a central bank buys and sells the currency against the market to manage the currency's value.
Convertible currencies or free convertible currencies are those that can be bought and sold on currency markets without restrictions. Inconvertible currencies or blocked currencies cannot be exchanged on the open market, though black market currency exchanges are often possible. However, inconvertible currencies are not available for trading on the open Forex market. Free floating currencies are easily exchanged and form the backbone of the Forex market
What Affects the Forex Rate?
When a currency is deemed weaker than another, that nation will export more and import less. Developing nations often seek a weak currency to bolster employment and manufacturing capacity. A very strong currency will cause a country to import more and export less.
The Forex market or foreign exchange rate market has become a key indicator in determining the state of a nation's economy, the openness of its economy and trade status. While Forex initially started as a way of buying currency for international trade, the exchange of currency has become a form of stock market with
yields, returns and long term contracts. A rapidly weakening currency indicates a currency that is rapidly becoming worthless, whether due to profligate spending by the government or capital flight by those afraid of having their assets seized.
Foreign exchange markets started to take off after the Bretton Woods Agreement was dismantled in the 1970s. Instead of pegging currencies to a set value in gold, the value of many major currencies could float on the open market. This meant that currency traders could actively trade in currency, not only to allow them to easily do business in other countries but mitigate long term currency fluctuation risks or try to make
money on projecting future Forex rates. Forex market rates can vary day to day and even hour to hour. Similar to stock markets, Forex markets are open during business hours, though those with access to Forex
Often Misunderstood Forex Trading Terms
In Forex, an exchange rate agreement is a forward exchange agreement that does not give a spot rate at settlement. This reduces the settlement risk in Forex swaps. Exchange Rate Agreements or ERAs are limited to a single transaction.
Translation exposure is the risk of keeping the books in one currency but reporting the financial information in another currency. A Japanese company that made a million dollars in the United States but reports its earnings in Yen could see its reported profits rise and fall along with the value of the U.S. dollar.
The daylight exposure limit is the limit that a bank will set for Forex trading in a single day. The daylight exposure limit is also called the overnight delivery risk.
A Virtual Private Server or VPS offers increased security over a public trading network. Forex VPS also give Forex traders 24x7 access to the market, while the major trading firms are limited to business hours in your home country. You can trade on a Forex Virtual Private Server any day of the week, even on weekends and holidays.
In Forex, economic exposure is the term used to describe the changes of a currency's value based on cash flow into or out of a company or country. Economic hedges reduce economic exposure. Economic exposure depends on the economic and political conditions of the company and its form of currency exchange. Using a Forex server allows you to reduce economic exposure by gaining the ability to trade based upon the latest news instead of waiting for the major Forex markets to open the next day.
Virtual Private Servers or Forex VPS can trade at any time. Forex deals can result in significant profits and losses like stock trading. However, Forex trading does not offer dividends like many stocks.
Traders in the Forex market may be proprietary traders who focus on short term trades or arbitrageurs who use arbitrage to make money. Market makers make money by supplying liquidity or loans to traders.
The Forex central parity or central rate is the central currency rate the European Union requires its members to maintain.
Buy-back is when you buy back a previously sold security or eliminates a position in the Forex market by buying it back. The buy-back valuation is the money required to unwind a Forex transaction before it matures.
A collared forward is when someone buys or sells puts and calls on a forward exchange rate.
The delivery date or settlement date is the payment date of a Forex contract.
Devaluation in Forex means the reduction of the official currency exchange rate. Devaluation in Forex may be caused by changes in economic problems or official policies.
The term base currency in Forex means the currency in which the value of other currencies is given. In Forex, the base/quoted convention is the quoted foreign exchange rate. The base currency comes first, followed by the quoted convention. The US dollar to yen conversion if quoted in American terms would be Y/$, or 1000 Yen = $1. For Americans, the foreign currency is the base.