Trading different currencies can be highly lucrative as well as risky, especially if you don’t know what you are doing. While there is usually at least some type of risk involved in trading and investing, it is important to know the basics so as to improve your chances of making money and keeping risk to an absolute minimum. Anyone who wants to know how to trade currencies should consider the following things.
Anyone who trades currencies deals in what is known as the foreign exchange market, which is essentially a worldwide financial market which a particular specialty in trading currencies from all over the world. There are millions of people in countries across the planet that are involved in the foreign exchange market and participate in it because of the potential for opportunity.
One of the first things which you will need to know about trading currencies is how transactions are carried out in the foreign exchange market.
What can be traded in the Foreign Exchange Market?
Although there are numerous things that are traded in the foreign exchange market, currency pairs are frequently utilized by those who are looking for a handsome return. Some of the most commonly traded currencies include:
• EUR/USD (Euro)
• GBP/USD (pound)
• USD/CAD (Canadian Dollar)
• USD/JPY (Yen)
• USD/CHF (Swiss Franc)
• AUD/USD (Aussie)
The above-listed currencies make up a vast majority of the ones that are traded, though it is true that there are still others. A person who buys the Euro is simultaneously purchasing United States currency as well. This applies to every type of currency, including the yen, pound, Swiss franc, and euro.
Bidding and Asking
Currency pairs are usually quoted with an asking and a bid price. The bidding price is almost always lower than that of the asking price. The bid price is the point at which someone is ready to buy a certain currency and it is also when a trader typically sells. The ask price is when the broker is ready to sell and usually when the trader buys.
The pip or “percentage in point” is the smallest possible increment of trade in the foreign exchange market. In this market prices are quotes to the fourth decimal point. For example, something in a store that is sold for $1.90 would be quotes as 1.9000 in the forex market. The change in the decimal point is a single pip and equivalent to 1/100th of just 1 percent. With regards to all of the major currencies that are traded in this market, the Japanese Yen is the only exception. A single yen is currently worth about $0.01 USD, resulting in a change of two decimal points.
Currency Carry Trades
Out of all the different trades in the currency market, carry is by far the most common. Whether it is an extremely large hedge fund or a small retail speculator, this type of trade is very popular. Every currency throughout the world has an interest rate attached to it and all short-term rates are showed by central banks within the respective countries; in the United States it is the Federal Reserve, whereas in the U.K it is the Bank of England.
The basic idea of the carry is very simply. A trader goes along with a currency that has a high interest rate, paying for the purchase with a currency that has a much lower interest rate. It is important to keep in mind that there is still a great deal of risk associated with carry trades and currency trading in general, because rapid and severe declines can occur quickly, leading to great losses for the trader.
While most other financial markets require a full deposit for the amount that is traded to be put down in advance, this is not the case when trading currencies in the foreign exchange market. All that is required when trading currencies is a margin deposit with the rest of the funds being supplied by the broker. The amount of leverage you get from your broker will vary depending on who you choose, so it is never the same.
Those who are interested in trading currencies will definitely want to keep in mind that while it may be a potentially lucrative financial endeavor, it can also be very risky. Anyone who is trading for the first time will want to start off slow until learning all of the subtleties and intricacies of this market.