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What Is Currency Trading?

By Louis Holding-Parsons on June 10, 2018

5 (100%) 1 vote

The term “currency trading” can have different meanings. We will discuss what is currency trading as buying and selling currency on the foreign exchange market with the intent to make money which is often called “speculative trading”. There are also different terms to describe currency trading such as Foreign Exchange and FOREX. What Is currency trading?

What is currency trading

Forex trading occurs when the buying and selling of one currency for another takes place at the same time. Together the two currencies form a currency pair with each one is represented by three letters. The first two letters representing the name of the country and the third letter representing the name of the currency. Sterling is known as GBP: Great Britain & Pound.

The currency exchange rate is the rate at which one currency can be exchanged for another. Exchange rates fluctuate based on economic factors like inflation, industrial production and geopolitical events.

What is currency tradingTraders make decisions to buy if they think that the value of the base currency might increase. Let’s take USD/GBP – If you believe that US dollars will strengthen against the pound then you buy dollars which means you are ditching sterling. If you are right then the value of USD rises and you can sell for a profit.

Which currencies are traded in Forex?

What is currency trading

 

There are many currencies but the main currency pairs are centred around:

  • Australian Dollar
  • Canadian Dollar
  • Euro
  • Japanese Yen
  • Sterling
  • Swiss Franc
  • US Dollar

How does the Forex market differ from others?

The Forex market is the most liquid and fluid market in the world. It trades 24 hours a day and only closes Friday evening until Sunday evening. The sheer size and scope makes the currency market the most accessible in the world. Unlike stocks, futures or options, currency trading does not take place on a regulated exchange. It is not controlled by any central governing body, there are no clearing houses to guarantee the trades and there is no arbitration panel to adjudicate disputes. All members trade with each other based on credit agreements. What is currency trading means understanding its differences versus other markets!

What drives currency movements?

Most people already know that the values of currencies shift, that’s why exchange rates change.

Sometimes prices can change at incredible speed due to an unexpected news release. This news release is usually linked to political and economic stability. What is currency trading can mean being caught in world events! A change by a central bank in currency intervention can lead to big losses if you are on the wrong side of the trade:

In 2015, the Swiss National Bank shocked currency markets by scrapping the Swiss Franc’s peg to the Euro, leading to the Swiss Franc soaring nearly 30% intraday!

There are multiple reasons why exchange rates change on a daily basis, but these are often linked to a change in perception based on a news release. Those rates are determined by a trader’s judgement of what a currency is worth versus another, with different traders having different perceptions of a currencies worth!

 The currency trading spread

What is currency tradingWhat is currency trading means knowing about spreads! The spread for a forex pair consists of a bid price and an offer price. It is important to know which way round you are currency trading with a Forex pair. When buying, the spread always reflects the price for buying the first currency of the forex pair with the second. So an offer price of 1.3000 for USD/GBP means that it will cost you £1.30 to buy $1.

Why trade currencies?

One of the reasons prospective traders want to discover what is currency trading is the size and liquidity of the Forex market but also:

  • Most firms will not charge commissions but only ask for the bid/ask spreads.
  • Convenience of trading 24 hour format, especially in today’s modern times.
  • You can focus on a few currencies rather than getting lost in innumerable options
  • Forex is accessible – you don’t need a lot of money to get started.

 What is a currency carry trade?

The carry trade is the most popular trade in currency trading as it rests on the fact that every currency in the world has an interest rate attached to it which is set by a country’s central bank.

Like with any great trade, the carry trade is a simple one. You buy the currency with a high interest rate and finance that purchase with a currency that has a low interest rate. Consider if you have a currency which has a rate of 8% and another which has a rate of 0%. You would earn 8% if you sold the currency yielding 0% and bought the currency yielding 8%. If you used leverage, you could substantially boost this return, though you should be wary of the risk of leverage.

 What is a Pip in Forex trading?

A Pip, which stands for “percentage in point” and is an important term when learning what is currency trading. It is known to be the smallest numerical price move in the exchange market. As most currency pairs are priced to 4 decimals places ($0.0001) the smallest change would be to the last number after the decimal point for example: $0.0001.

Conclusion

What is currency trading is the art of taking a calculated risk on foreign exchange markets so as to make money. Learning some of the terms and practices above will help you in your first steps but is only the first lesson! Understanding about risk management, emotional control and developing a trading strategy will be key to turning you from an aspiring trader into a consistently successful one!

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Louis Holding-Parsons

Louis is a portfolio manager and a trader who brings a wealth of experience in private banking to The Lazy Trader. A fundamentalist and a trouble-shooter, Louis makes a firm contribution to the trading team.

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Louis Holding-Parsons

Louis is a portfolio manager and a trader who brings a wealth of experience in private banking to The Lazy Trader. A fundamentalist and a trouble-shooter, Louis makes a firm contribution to the trading team.

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