Lesson 2 – Forex – What Is It?

A person who earns an average income usually thinks about what kind of savings is the best—how should you save up money without them depreciating? In which currency should you save up—Euros, pounds, dollars, or should you invest in gold? When the world financial crisis appeared, you would exchange Euros into dollars, then later probably buy Swiss francs, etc.

In this case, you are behaving as a passive currency-market observer. However, you can also become an active participant, which will allow you to not only secure your savings but also increase them. Therefore, while a financial crisis can be bad news for the individual company or person, it can be good news for a currency trader because there is the opportunity to earn well.

People who earn money from currency fluctuations are called currency traders. Slowly gaining experience and learning market analysis methods, Forex traders can make money whether the US dollar is increasing or decreasing in value.

For example, after having analyzed the market situation, Forex traders could buy US dollars to sell them at a higher value later. If the dollar is becoming more expensive at that moment, traders will sell so that they can buy it for a lower price later.

In this way, there are transactions made for two to three trillion dollars each day. Forex was formed in 1977 when the world market decided to switch to a “fluctuating” currency model. It was done because the currency of a lot of countries was tied to the US dollar, which disturbed the economic growth of those countries.

Forex Players

The Forex market consists of a wide range of players, who are more or less trading in currency.

The purpose of each player is the same: to seek profit, to buy cheap and sell expensive. Despite this fact, their functions differ.

Central banks form a country’s financial politics, ensure the country’s favorable exchange rate, and influences the exchange rate with its decisions. A central bank has a row of instruments at its disposal. It can change interest rates, affect change through the media, or intervene directly by buying or selling a huge quantity of currency. The intervention’s purpose is to cause a sudden decrease or increase in the exchange rate. It is important to note that such interventions are effective only for a short time, financial and economic indicators.

Remember that other Forex players react very sensitively to central bank’s actions as well.

Commercial banks ensure liquidity for themselves (the opportunity to accomplish tasks for their customers on time) and execute client orders (of companies or corporations) for exchange operations. For example, a company is interested in buying raw materials from foreign countries and will buy using the currency of that country. Therefore, the currency must be exchanged, which commercial banks take care of through currency conversion. The volume of currency that is being converted is very substantial.

Other players are broker services, investment funds, and individual traders.

We will go into depth about this later, but here we will briefly mention that all brokers are supervised to ensure a high level of trust (similar to banks). For example, US brokers are supervised by and certified by two federal organizations: NFA (National Futures Association) and CFTC (Commodity Futures Trading Commission). The main function of those organizations is the constant supervision of those brokers and control of service quality and common business clarity. In addition, they test financial broker accountability and analyze customers complaints. Similar organizations include the FSA (Financial Services Authority) in Great Britain and КРОУФР (Комиссия по Регулированию Отношений Участников Финансовых Рынков) in Russia.

Choosing a broker would seem to be a simple: the largest brokers should be chosen. However, the broker must be evaluated on different variables. Often, an average-sized broker can be much more appealing than a huge broker. Having a broker that fits your wishes and needs is more important than going with a large broker company. Please read the article “Forex Broker – How To Choose Wisely“.

Forex Market Hours

In our first lesson, we learned that the uniqueness of Forex is that time and place for trading are unimportant.

How is Forex different from the stock market? Each market has a determined trade place, i.e. it is in a building and has fixed opening hours. For example, the New York Stock Exchange (NYSE) on Wall Street is open from 8 a.m. to 5 p.m.

The Forex market has no central building and is working 24/7 from Sunday night to the very end of Friday. The NYSE‘s average daily turnover is around 22 billion dollars compared to Forex’s 2 to 3 trillion.

Consequently, Forex traders are trading from various locations and in different time zones, so it is logical to distinguish trading zones in terms of time zones. Time zones are counted from the reference point: zero Meridian GMT (Greenwich Mean Time), which is measured in the town of Greenwich, Great Britain. Trading is taking place 24/7. Therefore, trading activity is moving from one region to another, and trading never stops. The highest rate of activity in terms of transactions made is in Europe: one-third of all transactions are being made here.

Continent	City	Winter time		Daylight saving time
		GMT (Greenwich Mean Time)
		Open	Close	Open	Close
ASIA	Tokyo	0:00	8:00	0:00	8:00
	Hong Kong	1:00	9:00	1:00	9:00
	Singapore	1:00	9:00	1:00	9:00
EUROPE	Frankfurt	6:00	14:00	5:00	13:00
	Zurich	6:00	14:00	5:00	13:00
	Paris	6:00	14:00	5:00	13:00
	London	7:00	15:00	6:00	14:00
U.S.	New York	13:00	21:00	12:00	20:00
	Chicago	14:00	22:00	13:00	21:00

You can find the time for any city in the world by visiting Greenwhichmeantime.com. When you choose a city here, you will see the accurate GMT and time zone. It should be noted that on holidays when markets and banks are closed, Forex is closed as well.

Forex Trading Rules

1. There is always a demand for currency.

2. Supply and demand determine the exchange rate. If one party is buying dollars, it means that another one is selling.

3. A Forex transaction occurs when there are two participants: if a person is buying EUR/USD, somebody else is selling EUR/USD at that moment.

Forex Instruments – Currency Pairs

Standard currency pairs are determined in order to show which currencies can be exchanged for each other: EUR/USD, USD/CHF, GBP/USD, USD/JPY, etc.

The most popular currency pairs are the following:

EUR/USD: the euro is the base currency and the US dollar is quoted.

USD/CHF: the US dollar is the base currency and the Swiss franc is quoted.

USD/JPY: the US dollar is the base currency and the Japanese yen is quoted.

USD/CAD: the US dollar is the base currency and the Canadian dollar is quoted.

EUR/JPY: the euro is the base currency and the Japanese yen is quoted.

AUS/USD: the Australian dollar is the base currency and the US dollar is quoted.

What do “base currency” and “quoted currency” mean?

The first currency in a currency pair is the base currency (for EUR/USD, the base currency is euro). Transactions are being made only with the base currency—that means that euros are bought/sold only for US dollars.

The quoted currency determines what currency is used to buy the base currency.

Talking about US dollar, it is important to note that it can be either a base or a quoted currency. If you hear that somebody has bought a Swiss francs, it usually means that they bought a Swiss francs for US dollars. The currency pair looks like this: USD/CHF. In other words, Swiss francs is the base currency and US dollars is the quoted currency.

The changes of the price of the base currency in comparison to the quoted currency are demonstrated in charts.

A “exchange rate” is an abstract term; a quote is more specific. A currency quote (“quote” comes from coter, which means “mark, enumerate” in French), and it is a base currency value expressed in quoted currency units. That is the exchange rate for buying as well as for selling at that moment.

In any bank, you will see the price for buying and selling. The difference between those prices is the bank’s profit/fee. The same happens in the Forex market, but the difference (profit) is much lower.

Let’s look at an example. We see a quote EUR/USD 1.32000/1.32003. It means that a broker would buy EUR for 1.32000 US dollars and sell EUR under 1.32003. When deducting the selling price from the buying price we get -0,00003 (3 points).

In a Forex currency pair, the price is marked in two ways: Bid and Ask. The Bid price is what the trader is willing to buy at (what they offer/bid) while the Ask price is what the trader is willing to sell at (what they ask).

The difference between Bid and Ask is at least 1 point.

As a standard, the main currency pairs are marked with 4 or 5 decimals, with the exception of the Japanese yen. In the currency pairs GBR/USD and EUR/USD, 1 point will be equal to 1 dollar if a transaction is made for 10,000 euros, i.e. the base currency units.

A quote of Japanese yen will look as follows: USD/JPY 98.696/98.701 (only decimals). However, a 1-point weight is maintained, and it will be equal to 1 US dollar if a transaction was made for 10,000 US dollars.

Please necessarily read the following posts:

• What is the difference between old and new pips in Forex?

Exercises

1. Which currency is the base currency, and which one is the quoted currency in the following pairs: EUR/USD, USD/JPY, USD/CHF, GBP/JPY, GBP/CHF, AUD/USD, NZD/USD, USD/CAD.

2. If the currency pair GBP/USD is decreasing, is the US dollar becoming weaker or stronger?

3. If time in accordance with GMT=10:00, what time is going to be in London in June?

4. Can we calculate the currency pair price EUR/GBP if we know GBP/USD and EUR/USD? If yes, how?

I wish you success!

Do you have any questions? Please write your questions in the comments section—we will do our best to solve them with you!