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  • What is FOREX?

    Posted on September 17th, 2010 William No comments

    If you spend much time reading financial blogs, you've probably seen the term Forex thrown around more than once. Forex is short for the foreign exchange market, which is used for trading currencies; this allows businesses to convert their cash on hand from one currency to another, allowing them to pay for goods from another country in the currency of that country. Many people attempt to make money by guessing how one currency will fare against another; essentially you use one currency to buy another currency, with the expectation that the second one will be worth more. The foreign exchange market is the largest market in the world, and the most liquid.

    Forex is particularly popular because it's easy to get started and the market operates 24 hours a day, except weekends. In April 2010, average daily turnover was estimated to be $3.98 billion, of which $1.005 trillion was spot transactions (where currency is bought for immediate delivery, defined to be two days from when the trade is executed, or one day when swapping US dollars for Canadian dollars), $362 billion was in forward contracts (which amount to going long or short on a currency), and $1.714 trillion was Forex swaps (where equal amounts of the same currency are bought and sold, but for different times); the remaining $129 billion was not correctly reported. 34.1% of this trading occurs in London, 16.6% in New York City, and 6.0% in Tokyo. As brokers and dealers negotiate directly with one another, there is no central exchange; however, quoted prices are usually the London market price. The market is dominated by large traders, including banks and governments; the 10 largest traders account for 77% of trading volume . Generally these large traders are continually buying and selling currencies; the difference between what they buy currency for and sell it at is called the bid/ask spread. Generally, the currencies are traded in units of at least 100,000.

    Another option is carry trade, where investors borrow currencies with low interest rates and use them to buy more expensive currencies;  in the past, it was particularly popular to borrow yen (as the Bank of Japan set very low interest rates) to exchange for US dollars. This trade collapsed in 2008, leading to the rapid appreciation of the yen; this has been partially blamed for the credit crunch that lead to the financial crisis.

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