Forex Trading 101: What is FX Trading?
If you are interested in the world of trading you may find yourself wondering what is forex, and what is forex trading?
Getting started in the world of forex trading can be a daunting task. There’s an abundance of new terminology to get to grips with, and many of the ‘guides’ aimed at new traders seem to neglect the basics of exactly what forex trading is.
As professionals in the field, there is nothing we enjoy more than being able to pass on our knowledge of forex trading to others. Having become frustrated with the over-complicated nature of other material found online, our expert team has taken it upon themselves to compile a basic, practical handbook to help you to understand forex trading from the very start.
Our Forex Trading 101 guide covers everything you need to know as a first-time trader. On this page you can:
- Learn the basics of the forex market and how it works
- Discover the pros and cons of forex trading
- Find out what you need in order to start trading
- Learn how to make money trading forex
- Register for a demo account to start practicing
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What is forex?
Forex simply refers to the foreign exchange market, a market in which you can trade one currency for another. The word forex itself, which is also sometimes abbreviated to FX, is a portmanteau of the phrase foreign exchange.
One of the most unique things about the Forex market is that it’s decentralized. This means that it does not have a fixed location or an owner, and investors deal directly with each other. The decentralized nature of the forex market gives it other distinct qualities too.
Forex trading takes place around the world on a 24-hour basis during weekdays. This is very different from stock markets, which close at the end of the day. As the forex market is global, trading activity simply shifts to a different location, depending on what time of day it is. For instance, when trading finishes in New York, it begins in Sydney. Moreover, whilst the forex market is technically closed on the weekends, you will find that these down periods are very short due to the way time zones work.
Forex is also by far the largest financial market in the world, with a total trading volume of over $5 trillion per day. Ultimately, the size and scope of the forex market present you with a huge number of opportunities to trade.
What is forex trading?
Forex trading is the trading of currency within the forex market. On the most basic level, this is done through the trading of currency pairs (one currency traded for another currency). In fact, every time you take a vacation and swap your USD for the currency of your destination country or vice versa, you are participating in the forex market and forming part of the $5 trillion daily volume mentioned above.
Operating in the market as a retail forex trader is not a whole lot different. You are buying one currency at a particular price and hoping that this price then moves in your favor so you can resell it at a later date. What makes forex trading so potentially lucrative, however, is the amounts traded.
The difference in currency values is often negligible unless you are trading with large amounts. Whilst you might not make a lot of profit trading in your cash at the end of your vacation, as a forex trader you will generally trade at least one micro-lot (worth $1,000) at a time. This is facilitated by major forex brokers, who give you leverage to hold large market positions.
This effectively means that for as little as $100 in some cases, you can place trades to the value of $50,000. The market has the potential for you to grow your investment at an extreme rate.
Is forex trading regulated?
Yes. Although the forex market is decentralized, and so it does not have one particular regulatory body, it is operated in an extremely transparent manner. All major forex brokers must meet certain standards, imposed by a number of financial authorities who have established protective frameworks for traders and who monitor compliance closely.
Different regulatory bodies will be active in different areas of rules, and each has its own rules and regulations. These work to ensure that no matter what happens, your investment is used in a safe and secure manner.
Top forex brokers are typically overseen by at least one, if not several, of the following regulatory bodies:
- NFA (National Futures Association) – US-based regulator
- CySEC (Cyprus Securities and Exchange Commission) – The most respected regulatory body overseeing the EU area. They impose a maximum leverage of 1:30 among other rules.
- FCA (Financial Conduct Authority) – UK-based regulatory body
- IFSC (International Financial Services Commission) – Popular international regulatory body based in Belize which is trustworthy while possessing some more flexible regulations on things such as leverage.
How do currency pairs work?
When you trade in the forex market, you will be trading currency pairs. A currency pair is, as its name suggests, made up of two currencies. One is the base currency and one is the quote currency.
The base currency is always listed first. This is the currency which you are wishing to buy. The quote currency, on the other hand, is the currency you already have. You sell the quote currency to buy the base currency.
For example, in the EUR/USD currency pair, the Euro is the base currency and the Dollar is the quote currency. When reading this particular example market, you may see 1EUR = $1.20. This means that in order to purchase 1 Euro, $1.20 is required.
When you are trading in the forex market, you will always be trading currency pairs. There are hundreds of currency pairs to choose from, depending on your broker, though these can typically be broken down into 3 distinct categories:
- Major Pairs – These always include the US dollar. Popular major pairs include EUR/USD, GBP/USD and USD/JPY.
- Minor Pairs – These are also sometimes referred to as cross-currency pairs. These pairs do not include the dollar but do include one of the three main non-USD currencies (the euro, the British pound or the Japanese yen). Minor pairs include EUR/GBP, EUR/JPY, GBP/AUD
- Exotic Pairs – Exotic, or emerging, pairs are those which involve only one major currency. For instance, USD/MXN (US dollar and Mexican peso).
Currency pairs gain and lose value due to a number of different factors, such as economic news and political announcements. This, combined with the wide range of pairs available for trading, makes the market both lucrative and accessible to traders from all over the world.
The 3 different types of forex trades
There are three main ways in which you can trade on the forex market. These are through spot trades, forward trades, and future trades.
Spot Trades are instantly delivered orders. You are buying right now at the current price available in the market, and you will take ownership right away.
Forward Trades are trades in which you agree to pay a price for a currency at a set time in the future. This time and price are binding no matter what happens in the interim and no funds are usually required until the agreed date.
Futures Trades are trades in which you buy into the market now, with an agreed date on when to sell the current position. These are usually traded as CFDs in which case ownership of the underlying asset is not transferred.
Spot trades are by far the most popular type of trade. This is due to the fact they are instant and simple. These are both important qualities in a quickly changing market like forex.
Why is FX Trading so popular?
Retail forex trading, which refers to trading which is carried out by individuals, is incredibly popular. Around 5-6% of the entire forex market is made up of retail traders. That counts for around $300 billion of the market’s daily trading value.
Whilst this may seem small in comparison to the value of the complete market ($5 trillion), compare it to the daily value of the New York Stock Exchange (between $2-6 billion). As you can see, the retail forex trading industry is huge.
Why is this case? Although learning to trade forex profitably requires a lot of time and effort, and without this it can be risky, the simple fact is that there’s plenty of appealing advantages to forex trading too.
Earn extra income
Forex trading offers you the opportunity to earn extra income, provided you are suitably prepared for trading, knowledgeable about the market and remain aware of the risks. As the forex market is open 24 hours a day, trading can be done in your spare time. FX trading can be fitted to your lifestyle, not the other way around.
Start trading with ease
One great thing about forex trading is that you typically do not need huge amounts to get started. Most major forex brokers require a first minimum deposit of under $100. Learning about forex trading is similarly accessible. The internet is filled with quality forex trading guides and advice (like this very page), and your broker may even provide you with educational materials to help you improve your skills.
Adapt your trading style to suit your needs
A huge benefit of forex trading is that, wherever you turn, you are presented with a wide range of options. From choosing to trade the currencies you know well, to employing different strategies or using robots, you can always adapt your trading style to make sure you get the best results for you.
Trade wherever you want
In the past few years, forex trading has become increasingly portable. Many of the best forex brokers now allow you trade from almost anywhere, as their trading platforms are available on desktop, laptop, and mobile. You can also use mobile app to keep up to date with trading analysis when you’re on the go.
Open all hours
In addition to being able to trade wherever you like, the non-stop nature of the forex market means that you can trade whenever you like too. No matter which time-zone you’re in or whether you’re a night owl or an early bird, you can always trade at a time that suits you.
Explore a highly liquid market
Liquidity essentially describes how easy it is to sell something for cash. In trading terms, this means whether or not you can invest in an asset quickly and sell it again quickly, without impacting the inherent value of the asset. The forex market, with its huge market volume, has high liquidity. As such, there are always trades to be made and prices remain relatively stable.
What do I need to start FX trading?
As we mentioned earlier, forex trading can seem intimidating. Luckily, help is at hand. Our range of forex educational guides and material will put you in good stead to start trading effectively.
Once you’ve done your research and studied hard, you’ll be pleased to know there’s only a handful of other things you need to get started:
Of course, to start trading you’ll need some capital. The amount of capital you need, however, is reducing all the time. Top forex brokers are becoming more flexible with their minimum deposit limits, to a point where you can now get started for under $100.
Hardware and Software
Next, you’ll need to make sure you have some way of trading. Traditionally this would mean having a PC or laptop yet, thanks to modern technology, you can now easily use top trading platforms on your mobile or tablet.
A Quality Broker
Once you’ve created a convenient trading set-up, you’ll then need to choose a broker to trade with. It is important to find a broker that suits your needs perfectly. This could mean choosing a broker that offers a strong educational infrastructure, a particular trading platform or a certain range of markets. You can use our broker comparison list to help narrow down your search.
Last but not least, to trade forex successfully you will need to keep up with economic and current events. There are certain tools that can help you with this, such as economic calendars and market news notifications, and these are often provided by top brokers.
You can also use trading signals or try out copy trading, where you follow the activity of successful traders, to help you to whilst you get started.
How to make money trading forex
To make money trading forex, you need to know one simple thing: when to buy and sell currencies.
Of course, this is easier said than done. To trade successfully, you must invest time in yourself and your learning before you invest your capital in the market. Profitable traders have a firm understanding of economic trades and use this to create tested forex trading strategies. A good trading strategy can help you to interpret, anticipate and make the most out of market movements.
Practice trading forex now
Once you are feeling confident in your knowledge and trading ability, registering for a forex demo account is your next step.
Demo accounts are excellent as they allow you to trade and make mistakes with virtual currency. You can trade in a completely risk-free environment, yet the software and markets will still perform exactly as they would under live conditions. This gives you a comprehensive trading experience, helping to build your knowledge extensively, for free.
Many of the best forex demo accounts, like those in the table below, also offer unlimited use periods. So, even after you start live trading, you can use your demo account for testing strategies.
What is forex trading?
Forex trading is the exchange of one foreign currency for another, in a huge global market which is worth more than $5 trillion in daily volume.
How does forex work?
At its most basic, forex trading works by exchanging one currency for another and exploiting the change in the value of currencies to make a profit.
Can you get rich by trading forex?
Yes. Some of the world’s richest people are or were forex traders. These include the likes of George Soros who made the majority of his fortune trading the Great British pound.
Is forex trading a good idea?
Sure. If you are interested in trading and keen to learn, the forex market is the largest and most traded market in the world. Forex trading can be very profitable.
Is forex trading legal?
Absolutely. Forex trading is legal and very well regulated by a number of well-respected bodies all around the world.
Video Transcription: What is Forex Trading?
Hello there, we start today a series of video courses here on Top rated forex brokers, with the beginner’s part. The aim is to create also intermediate and advanced trading training courses, both from a technical analysis point of view and a fundamental analysis point of view, but we have to start from somewhere. And here we are with explaining ‘what is Forex trading?’, and moreover why traders are attracted to Forex trading.
(0.35) Forex trading means that you come to a place where you buy or sell a currency, but currencies are arranged in currency pairs. You can not only buy a currency, but you can also buy currency or sell a currency based on the way a currency pair moves, and against another currency. For example, this is the Euro/USD that you see here listed on the trading platform and it is under ‘four hours’ chart. What does it mean?
(1.05) It means that every candle that you see here, green candles or red candles on the screen, they represent four hours as a timeframe. If we want to buy the Euro/USD or to sell, for example, let’s buy at market the Euro/USD, now trading at 1.19180 – 1.19184. This is the quotation. If you want to buy you always buy it from the right side, this is called the ‘ask’ price. You buy from the ‘ask’. If you want to sell, you always sell from the left side, from the bid price.
(1.45) When you do that, you can take a trade either based on bullishness – being bullish on the Euro means that you expect the Euro to move to the upside – or you can take a trade being bearish on the dollar – namely, you expect the dollar to move to the downside and hence the Euro/USD pair will move to the upside.
(2.14) When it comes to Forex trading, everything relates to the number of pips that you make. A pip is the difference between the bid and the ask price. For example, now the price is 1.1918, therefore if we buy it here at 1.1918, and the market moves to the upside to 1.1980 or 1.20, the difference between the higher price and the entry price, or the exit price and the entry price, represents the profit.
(2.54) Or, if the market moves to the downside, it represents the loss. That’s Forex trading, Ladies and Gentlemen, nothing else.
Now imagine how this world functions, or not how it functions, but how it is organized. Imagine that this is the world. Now, every country that we have here in the world has a currency.
(3.23) We have the USD in the United States, let’s put it here, we have the Euro in the Eurozone and so on. So, let’s actually put the Euro here as well – this will be the Euro. We also have the Japanese Yen and so on and so forth, all the currencies in the world. Now if you combine them two by two you will have currency pairs.
(3.58) So this will be the Euro and the USD, or the Euro and the Japanese Yen, or the Japanese Yen and the Australian dollar, the Australian dollar, and New Zealand dollar, the New Zealand dollar and the Euro, the Euro and Australian dollar, and so on, you get the picture.
When buying and selling a currency pair it means that effectively you have an opinion about how the economies – the two economies in a currency pair – evolve.
(4.29) Because if you look at the currency pairs and how they are part of the Forex ledge board, the way it moves represents the imbalances between those two economies. The Australian and New Zealand dollar pair, for example, this one shows the weakness and the strength of an economy. As long as the AUS/NZD pair moved from 1.06 to 1.14 this can happen only in two instances.
(5.01) Either the Australian economy outperformed the New Zealand dollar economy, or the monetary policy in New Zealand is easiest, if you want, or is not that tight like the one in Australia. The differences between the two economies, the differences between the two monetary policies, are seen in a currency and in a currency pair.
(5.28) Traders strive to have a competitive edge or to have an educated guess about fundamental, or about technical parts, in order to interpret how the market will move. That’s what makes a successful trader.
When it comes to Forex trading or to entering a market, you can enter a market either from a fundamental point of view – there are a lot of macro traders that look at different economic aspects around the world’s regions, around the different countries and so on, and they buy or sell a specific currency pair or a specific currency like the Euro against everything else, or the dollar against everything else.
(6.14) Or you can be a technical trader – if you are a technical trader then you have any trading platform, like this one, that offers a bunch of technical indicators to use. If you go here to ‘add indicator’, you have indicators for everything. You have indicators for the Bill Williams indicators, you have math transform, you have momentum, which are more or less oscillators, you have trend indicators, and so on, statistical, volatility indicators, you name it, everything you need to have from a technical point of view exists in a trading platform today.
(6.52) If it doesn’t exist it can be imported as long as you have your own indicator or technical approach.
There are also trading theories that we will cover in these courses, like the Elliott Wave theory, the Gartley theory, the Gunn theory and so on, but in the end what matters is to answer a very simple question – which by its simplicity makes Forex trading so complicated…
(7.24) – is the market, any market, moving to the upside or to the downside?
(7.36) Or will it range? Because if it ranges you may have some problems, because if the market ranges and takes its time on the daily chart or on the bigger timeframes and you play a negative swap – you will learn later what a negative swap is – then the balance of your trading account will decrease, which is not something that you actually want.
(7.58) To sum up, Forex trading, or the foreign exchange market, is the biggest financial market in the world. There is no lack of liquidity here, you can sell and buy whatever you want. You will always find someone willing to take the other side of the trade. And every day over five trillion dollars exchanges hands. This makes it not an impossible, but a difficult trading environment.
(8:31) This makes it mandatory to understand how the market moves and what are the best approaches to technical analysis, and this is why we have created a trading academy destined to help everyone. We’ll start from scratch by explaining various concepts, technical analysis concepts, explaining a trading account, pros and cons of different brokers and trading platforms, and so on.
(9.01) Then we will move slowly but surely into fundamental approaches. into central banking, into basic technical analysis concepts, and then to advanced stuff to see how to trade the Forex market to make a profit.
Thank you for being here and let’s move on.
More educational materials
- What is a Currency Pair?
- Majors and Crosses – How to Trade Them
- Leverage and Margin Requirements
- What is a Margin Call?
- Setting Up a Chart in Metatrader 4
Recommended further readings
- “Forex Trading and Investment.” Hakim, Hossein. PhD diss., WORCESTER POLYTECHNIC INSTITUTE, 2012.
- “Stock & Forex Trading.” Zarotiadis, Grigoris.(2012).