FOREIGN EXCHANGE or FOREX or FX

MEANING OF FOREIGN EXCHANGE

1. Any currency other than the local currency, which is used in settling international transactions. Also called foreign currency.

2. System of trading in and converting the currency of one country into that of another.

MEANING OF FOREIGN EXCHANGE MARKET

INTRO

• Foreign exchange markets are among the most exciting in the world of finance. This is where the world's various currencies are priced by speculators, traders, banks and investment funds.
• By some estimates, over $4 trillion a day changes hands in the foreign exchange (forex) markets. This is more than all of the world's stock and bond markets combined.
• Foreign exchange means the value of one country's currency against another, and that is the primary way currencies trade: in pairs. The major currencies are considered to be the U.S. dollar, the Euro, the Japanese Yen, the British Pound, the Swiss Franc and the Australian, Canadian and New Zealand dollars

DIFFERENT FROM OTHER MARKETS

· The market is different from other exchanges in that it has no central location. Instead, it consists of traders who buy and sell currencies from their computers

Open 24 Hours

· One of the biggest differences between the forex markets and markets for other asset classes is that the forex markets are open 24 hours a day.

· The trading session starts when the Tokyo market opens and once Tokyo closes, London opens. London then passes the baton to New York to complete the day.

· Since no other markets are open 24 hours a day, no other markets offer the potential for profit (or loss) the way the forex does.

Function

· The main purpose of the foreign exchange market is to encourage international investment and trade. This market exchanges one currency into another currency. For example, when European countries export products and services to the United States, the U.S. can pay for these items in euros, rather than dollars.

Demand Factors

• One factor on demand for various currencies is tourism. That's right. Every time a traveler enters a country other than his own, he must convert his cash into the currency of the country he is entering. That creates demand.
• Another way demand is created is within the forex markets themselves where speculators and traders will value another currency above another, which may lead other investors to purchase the higher valued currency.
  Central banks also weigh on demand for certain currencies. For example, if the Bank of England wants to purchase a large amount of U.S. dollars, that will lower the supply and the dollar will rise as a result.

No Central Exchange

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There is no central exchange or regulatory body for the forex markets. In the United States, the stock exchanges are located in New York and they regulate themselves, though they are subject to the rules and regulations of the U.S. Securities and Exchange Commission. There is no home market for the forex market and hence no regulatory body to enforce rules and regulations. · The International Bank of Settlements tracks trading volume, but it is not an enforcement bo

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The Largest Forex Traders

· By volume, the largest players in the foreign exchange markets are Germany's Deutsche Bank, Switzerland's UBS, England's Barclays Capital, the United States' Citigroup and the Royal Bank of Scotland. The biggest trading center is London.

Other Participants

· About 70 to 90 percent of forex transactions are used for investment purposes, means the rest are purchased by central banks as part of swaps with other central banks. Hedge funds are among the biggest speculators in the foreign exchange markets and are known for their aggressive tactics.

Benefits

· Unlike other markets, such as commodities, the foreign exchange market is highly liquid, meaning assets can be quickly converted into cash. Traders can execute trades 24 hours per day, except on the weekends.

Types

• The foreign exchange market is one of the largest global markets. Some of the players that trade in this market are central banks, speculators and corporations. Individuals, known as retail traders, make up a small part of this market. They cannot trade directly, but can conduct this task through a broker or bank.

Considerations

• The foreign exchange market is broken down into levels when it comes to accessing prices. Not all traders will see the same price. The inter-banks, which are very large investment banking firms, have the best access to prices because they trade in very large volumes. As a result, they have access to the best spreads. The spread is the difference between the bid and the asking price.

How Foreign Exchange Rates Are Calculated

Trade between two countries can impact how their currencies are valued as a pair. For example, if the United States has $1 million and Japan has $1 million, the dollar and the yen would be equal. However, if the United States buys $100,000 worth of goods from Japan, in theory, Japan is now wealthier and the yen would rise against the dollar.
Interest rates set by central banks also impact currency valuations. If the Federal Reserve raises interest rates, the cost of borrowing dollars rises and the dollar's value in turn increases. When the Fed lowers rates, dollars are cheaper and their value falls. And if a country's central bank decides to print more money, the value of its currency will almost always decline.