Forex For Beginners, And How Forex Works
Forex For Beginners, A Brief History And How Forex Works
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Summary:
·
Brief History
·
Forex Information
·
How are exchange rates determined?
·
The difference between Forex and stocks
·
The peculiarities of Forex
Brief History
Forex, as it is now, has been around since the 1970s.
In the past, the gold standard was used to define the value of a currency. A
weight of gold was fixed, which corresponded to the value. The exchange of
coins and notes for gold was certified by the state.
Thanks to this system, the value of a currency was very
stable. There was no fear that it would lose value since it was directly linked
to the value of gold. Currency conversion was, therefore, also easy since the
value of the currencies was always the same.
In the past, the price of gold was much less volatile
than it is today. It was during the 1st World War that Western countries
abandoned the gold standard. The United States did the same later because of
the Great Depression of 1933.
In 1944, after the Normandy landings, the allies met in
Betton Woods to discuss how the world economy would be structured after the
war. It was at this meeting that the IMF was founded.
The United States has reintroduced the gold standard
into its monetary system, thus pegging all other currencies to the dollar.
These are connected to the gold standard via their parity with the dollar. In
this way, the US dollar became the international reserve currency, which is
still the case today.
However, in 1970, the United States was forced to
abandon the gold standard due to the rising cost of the Vietnam War. This ended
the agreement at Bretton Woods, which ensured monetary stability by linking the
most virtual currency to the gold standard.
Despite this, the dollar remained the reserve currency,
which means that since that time, international monetary stability has been
closely linked to the stability of the US dollar. This was the beginning of the
era of floating currencies. The price of currencies is, therefore, now
determined by the free market.
Forex Information
The term “Forex” is an acronym for “foreign exchange”, also
called the foreign exchange market. It is the largest financial market in the
world. It is an over-the-counter market, which means that the orders do
not pass through the stock exchange but are carried out by the participants
themselves. There is no supervisory authority. As Forex is a market without a
central exchange or supervisory authority, this market is open 24 hours a day,
five days a week. It remains open as long as there are banks to process
currency orders.
Until a few years ago, the leading players in the
foreign exchange market were banks, multinationals and governments. But in
recent years, a new player with much impact has come into play: the individual
trader. Initially, Forex was mainly used to ensure the proper functioning of
the international monetary system. But today, 70-90% of order volume comes from
speculation. That is to say; people try to earn money by exchanging currencies.
This is also the case for other financial markets.
How are exchange
rates determined?
In forex, the value of one currency is determined
relative to another currency. They are traded in pairs. For example, the euro
against the dollar, whose currency pair is indicated as EUR/USD (euro/dollar).
When the demand for euros increases, the EUR/USD pair rate also increases. When
demand decreases, the EUR/USD pair also decreases.
All currencies are quoted against each other. It is,
therefore, possible to trade hundreds of currency pairs on forex. The most crucial
currency pair is EUR/USD.
A
currency pair is represented by the code of the two currencies separated by a
“/”. For example, EUR/USD, GBP/USD, USD/JPY, etc. Currency codes consist of 3
letters. The main ones are:
USD = US Dollar
EUR = Euro
JPY = Japanese Yen
GBP = British Pound
CHF = Swiss Franc
CAD = Canadian Dollar
AUD = Australian Dollar
NZD = New Zealand Dollar
The first code corresponds to the base currency, and
the second to the “counterparty” or “quote” currency. The base currency is the
one you bet on when you buy. If you sell, you bet on the counter currency.
We say we open a position when we buy or sell a
currency. If, for example, you think the euro will rise against the dollar, you
would open a long position on the EUR/USD pair. If you think the opposite, you
will open a sell position on this exact pair.
The difference
between Forex and stocks
The main difference between stocks and currencies is
that if you own a company, you become one of the company's owners. In forex,
you own money. A forex position has no intrinsic value. Also, if you own a
stock, you will likely receive dividends.
The price of
a share of a company that is in good financial health should generally go up
over the long term. On the other hand, the price of a currency pair will tend
to fluctuate rather than rise over the long term.
Forex is,
therefore, a speculative market rather than an investment market. We earn money
by speculating the rise or fall of a currency over a certain period.
Another
difference, Forex traders very rarely take the currencies they buy. Forex is
not based on material property.
Finally, the
stock market is more expensive. It takes more capital to buy a stock. This does
not allow small investors to trade in this market. For example, with 1000
euros, it is not worth buying shares; in addition, there are management costs
and broker fees. On the other hand, with this same sum, you can benefit from
the forex.
The peculiarities of Forex
As we
mentioned earlier, with the arrival of the internet, individuals can now easily
invest in the Forex market. Forex offers different lot prices. In the beginning,
it took 1000 dollars to buy a lot of EUR/USD.
Now brokers
are offering micro lots. So you can buy a lot for 10 cents. You can start
trading forex with a small capital, like 200 euros.
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