Forex Investment and Currency Trading

Forex is actually a short way of saying foreign exchange currency trading. Today the Forex market is by far the largest and most liquid market in the world. On average more than US$ 1.9 trillion is traded each day in the foreign exchange market. That’s several times more than the daily volume in the world’s second-largest market – the U.S. government securities market. In fact, Forex trading volume translates to more than US$200 in foreign exchange market transactions every business day of the year for every man, woman, and child on Earth!

Not only is the total volume hard to fathom for most people, the sheer volume of some individual trades can involve much more money than most people deal with in their entire lifetimes. It’s not uncommon to hear of individual trades in the US$200 million to US$500 million range.

It’s a fast-moving market, too. Price quotes for a currency pair can change as often as 20 times a minute, or every 3 seconds. The most active exchange rates can change up to 18,000 times during a single day. Actual price movements tend to be in relatively small increments, which also makes this a smoothly functioning and liquid market.

Foreign currency is exchanged in financial centers around the world, but the largest amount of currency actually changes hands in the United Kingdom. Well, changing hands may not be a good metaphor, because most of the transactions are done by electronic transmission, and paper currency is not really moved from one trader to another. Instead, an initial trade of foreign currency with one dealer leads to a number of different transactions over several days as various financial institutions readjust their positions (the open trades held by a trader).

In fact, a foreign exchange dealer buying dollars in any institution around the world is actually buying a dollar-denominated deposit in a bank located in the United States or the claim of a bank outside the United States based on the dollar deposit located in the United States. That’s true no matter what currency you trade. A dealer buying a Japanese yen, no matter where he makes the purchase, is actually buying a yen deposit in a bank in Japan or a claim on a yen deposit in a bank in Japan.

The United Kingdom is the most active financial trading center because of London’s strong position as the international financial center of the world, where a large number of financial headquarters are located. According to a foreign exchange turnover survey completed in the late 1990s, more than 200 foreign exchange dealer institutions in the United Kingdom reported trading activity to the Bank of England whereas only 93 in the United States were reporting to the United States Federal Reserve Bank of New York.

London has a major advantage over U.S. markets because of its geographic location. Because it is in the center (in regard to its time zone) the normal business hours for London financial institutions coincide with other world financial centers. Its early-morning hours overlap a number of Asian and Middle Eastern markets, and its afternoon overlap with the North American market.

The Forex market is a 24-hour market almost 6 days a week. The markets are closed for only a short period of time on the weekends. As some financial centers close, others open; so the foreign exchange market can be viewed in terms of following the sun around the earth.

The 24-hour market means that exchange rates and market conditions can change in response to developments that can take place at any time. This differs significantly form the stock or bond markets, which primarily trade only when the exchanges are open. Although there is overnight trading of stocks, it’s a limited market with a lot less liquidity or volume.

If you learn about major news that might impact a foreign currency in which you trade, you have 24-hour access to act on that news. But if you learn about something regarding a stock you hold after the closing bell, you probably won’t find a way to trade it until the next business day. This greatly decreases the chances of market gaps in Forex trading that can be found with stock trading.

Although 24-hour access might sound like a great opportunity, it can also create a money-management nightmare. As a trader, you must realize that a sharp move in a foreign currency exchange rate can occur during any hour, at any place in the world. Large currency dealers use various techniques to monitor markets 24 hours a day, and many even keep their trading desks open on a 24-hour basis. Other financial institutions pass the torch from one geographic location to another rather than stay open around the clock.

The volume of currency traded does not flow evenly throughout the day. Over any 24-hour period, there are times of heavy activity and times when the activity is relatively light. Most trading takes place when the largest numbers of potential counterparties are available or accessible on a global basis.

Business is heaviest when both the U.S. markets and the major European markets are open. That is when it is morning in New York and afternoon in London. In the New York market, nearly two thirds of the day’s trading activity takes place in the morning hours before the London markets close. Activity in the New York market slows in the mid to late afternoon after the European markets close and before the Asian markets of Tokyo, Hong Kong, and Singapore open.