How Does Forex Work?
The basic idea of Forex is simple: that you buy one type of currency, or a grouping of currencies, and then sell it with the idea of making a profit on the exchange rate with forex.
Whether you make that profit is almost always based on forex timing — meaning that you have to look carefully at currency trends, consider your transaction sizes, and evaluate just how long to wait before swapping one currency for another.
Here are a few terms to get you started:
- The Future: To do this, you enter into a contract with a dealer called a future. In most cases, it works like this. Let’s say you have $200,000 to spend. You contract, via a future, to buy 100,000 euros from a dealer at $1.52 per euro, spending $152,000.
- The Margin: On this you pay what’s called a margin, a percentage that works like a bond to hold the contract. The future you’ve arranged now allows you to delay the next step in the transaction — selling the 100,000 euros. Let’s say you set it for 30 days.
- The Turnaround: Your goal is to sell your euros in a month’s time at a hopefully increased exchange rate — keeping the difference as profit. If the euro does something to your disadvantage, however, you can negotiate with the dealer to extend the term of the future (but you may have to pay interest and some fees to do so). Forex
The Informed Forex Trader: The Basic Idea of What They Should Buy
So, which kind of currency should a Forex trader buy?
The answer, as eToro points out, is often in the news. Forex traders watch for new data on things like unemployment rates. To quote the site’s page on learning the market: “if a news release came out about an increase in the unemployment rates, one should immediately be alarmed, for higher unemployment rates are not good for an economy, and will have a negative effect on it, which in return will have a negative effect on that country’s currency. One, of course, will then act accordingly (sell or buy a certain currency as a result).”
There are ways to learn how to do this well. You can take classes, or read books, talk to experts on Internet forums: whatever it takes to get the theoretical underpinnings (like in the above example) into your mind. Forex
- Practice Accounts: Tutorial systems like the one at eToro are one example of a way to learn the FX ins-and-outs without spending a lot of cash up front. For free, you can set up a practice account, then simulate trading on the Forex in an unlimited capacity without risking your real-world investment account. For many, this is a sound way to start.
- Follow and Copy: Once you’re underway, eToro also offers a follow and copy component. You research top traders in the market, then link to their buys and sells via the eToro system to make similar moves.
As for other ways that Forex works, this is the first of a series of postings on the topic at Wall Street Survivor.
In other posts we look further into how Forex quotes work; ways to analyze what currencies may do (or what they have done, recently); and how to work out likely profits and losses when trading on the FX. Stay with us, and learn on! Forex.