Most people get confused by the word forex. However, forex is just an abbreviation of foreign exchange and what we are interested in our discussion is one of the components or assets in the foreign exchange which is currency. Foreign exchange, therefore, is basically the exchange of one country’s currency into another country’s currency for different reasons. Currencies can be exchanged either for tourism, commerce or for speculation purposes. The fact that technology has turned the world into a global village, different countries conduct business together and there is always a need to use local currency in the process.
Forex trading officially began in 1971 following the Bretton Woods Accord that allowed currencies to be floated freely against each other. However, at that particular time foreign exchange was not on a wide scale as it is today. The increase and the need for foreign exchange services have been attributed to the rise in the value of different currencies. The major players include investment banks as well as commercial banks who act on behalf of their clients. However, technology has also made forex trading possible on a personal level. Anyone with a pc and internet connection can engage in forex trading from anywhere in the world.
Forex as a speculation
Speculation is one of the ways through which both institutions, as well as individuals, make money out of the forex market. There is always fluctuation of the currency value of different countries as a result of varying supply and demand factors such as trade flows, geopolitical risk, interest rates, and economic strength among other factors. Such factors present an opportunity for people to speculate on the value of different currencies hence being able to purchase or sell with anticipation the currency they purchase will gain value. Tradedax.com
Currency as a hedge fund
or commercial enterprises which have businesses in foreign countries are always at risk as a result of currency value fluctuation especially when they have to buy or sell products to other countries. The foreign market has a solution to this problem in the sense that it provides a means to hedge the risk involved putting a fixed rate in which the transaction will sell or be bought at in the future. This, therefore, helps traders to mitigate risks by either selling or purchasing currency in swap markets.
Forex as an asset
There are two different features that present currency as an asset. The first is through
earning interest rate differential between two currencies while the second is through gaining value in the exchange rate.
Forex trading risks
Just like any other business, forex trading has a number of risks although sometimes complex to understand. Most people have raised questions about the interbank markets saying that the fact that they are unregulated exposes traders to high risks since there is no oversight. However, that is not entirely true if the concept of centralized and decentralized markets is clearly understood well. Besides, there are several other risks involved but the best thing is to understand how to manage those risks.
Advantages and disadvantages of trading in forex
There are several advantages of participating in the forex market. One of the first advantages is gaining profit. Through speculation, a person is able to earn profits as a result of an increase in the value of currencies. Besides, there are also commissions offered by various forex brokers.
The only disadvantage that a person can face in forex trading is the risk of losing money. Some traders have lost millions because of taking too many risks in the forex market. Nonetheless, such risks can be avoided through experience and learning.