Forex Market Mechanics ESSENTIALS
Forex as you probably know refers to foreign exchange i.e. foreign currency trade. It is a market which has no official exchange, and is 24 hours. Trading takes place through large financial institutions like banks, as well as small dealers and private individuals. Most of the trade is speculative, with only a small fraction of the purchases actually going through at the end of the day. We’ll be dealing with the basics of how this particular market functions. Most of what you’ll read here is for your knowledge and understanding. In actuality, all of this will be handled by your broker, the guy who handles the actual transactions for you.
The primary factor is obviously the rate at which you buy/sell currency. This is called the exchange rate, and this your broker gathers from a centralized feed. Basically, these are Inter-Bank rates. Inter-bank as the name suggests means “between banks”, banks meaning large financial institutions. So the “centralized feed” mentioned earlier is essentially made up of quotes from the top 300 or so financial institutions, ensuring reliability. This way, if your broker makes a deal on your behalf with any of those institutions, it ensures that the deal goes through.
The rates are represented using the following symbolization:
EUR/USD @ 0.9940/0.9945
Here, EUR represents the Euro, USD the US Dollar, and EUR/USD indicated that the Euro is being traded against the US Dollar. You can see two numbers with a minor difference alongside the symbol. The number on the left is the bid; this is what traders are willing to pay in USD for 1 Euro. The second number is the offer or the ask. This is the price at which traders are selling Euros against Dollars. The difference between the two rates is called the spread.
For the four major currencies (EUR, JPY, CHF – Swiss Franc, and GBP – Pound Sterling/Great Britain Pound) the spread value is usually 5 pips. Don’t worry about pips. For now, just remember that a pip is the smallest value by which the rate changes (technically the smallest decimal place).
At this point, you know enough to make out what is going at what rate. Your broker may represent it using a slightly different convention but rest assured that this is the information that will be conveyed to you, and if you understood the above, you’ll understand that as well.
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