Unlike a stock market, where all participants have access to the same prices, the forex market is divided into levels of access. At the top is the inter-bank market, which is made up of the largest investment banking firms. Within the inter-bank market, spreads, which are the difference between the bid and ask prices, are razor sharp and usually unavailable, and not known to players outside the inner circle. As you descend the levels of access, the difference between the bid and ask prices widens (from 0-1 pip to 1-2 pips for some currencies such as the EUR). This is due to volume. If a trader can guarantee large numbers of transactions for large amounts, they can demand a smaller difference between the bid and ask price, which is referred to as a better spread. The levels of access that make up the forex market are determined by the size of the “line” (the amount of money with which they are trading). The top-tier inter-bank market accounts for 53% of all transactions. After that there are usually smaller investment banks, followed by large multi-national corporations (which need to hedge risk and pay employees in different countries), large hedge funds, and even some of the retail forex market makers. According to Galati and Melvin, “Pension funds, insurance companies, mutual funds, and other institutional investors have played an increasingly important role in financial markets in general, and in FX markets in particular, since the early 2000s.” (2004) In addition, he notes, “Hedge funds have grown markedly over the 2001–2004 period in terms of both number and overall size” Central banks also participate in the forex market to align currencies to their economic needs.

Banks

The interbank market caters for both the majority of commercial turnover and large amounts of speculative trading every day. A large bank may trade billions of dollars daily. Some of this trading is undertaken on behalf of customers, but much is conducted by proprietary desks, trading for the bank’s own account.

Until recently, foreign exchange brokers did large amounts of business, facilitating interbank trading and matching anonymous counterparts for small fees. Today, however, much of this business has moved on to more efficient electronic systems. The broker squawk box lets traders listen in on ongoing interbank trading and is heard in most trading rooms, but turnover is noticeably smaller than just a few years ago.

Commercial companies

An important part of this market comes from the financial activities of companies seeking foreign exchange to pay for goods or services. Commercial companies often trade fairly small amounts compared to those of banks or speculators, and their trades often have little short term impact on market rates. Nevertheless, trade flows are an important factor in the long-term direction of a currency’s exchange rate. Some multinational companies can have an unpredictable impact when very large positions are covered due to exposures that are not widely known by other market participants.

Central banks

National central banks play an important role in the foreign exchange markets. They try to control the money supply, inflation, and/or interest rates and often have official or unofficial target rates for their currencies. They can use their often substantial foreign exchange reserves to stabilize the market. Milton Friedman argued that the best stabilization strategy would be for central banks to buy when the exchange rate is too low, and to sell when the rate is too high — that is, to trade for a profit based on their more precise information. Nevertheless, the effectiveness of central bank “stabilizing speculation” is doubtful because central banks do not go bankrupt if they make large losses, like other traders would, and there is no convincing evidence that they do make a profit trading.

The mere expectation or rumor of central bank intervention might be enough to stabilize a currency, but aggressive intervention might be used several times each year in countries with a dirty float currency regime. Central banks do not always achieve their objectives. The combined resources of the market can easily overwhelm any central bank. Several scenarios of this nature were seen in the 1992–93 ERM collapse, and in more recent times in Southeast Asia.

Investment management firms

Investment management firms (who typically manage large accounts on behalf of customers such as pension funds and endowments) use the foreign exchange market to facilitate transactions in foreign securities. For example, an investment manager with an international equity portfolio will need to buy and sell foreign currencies in the spot market in order to pay for purchases of foreign equities. Since the forex transactions are secondary to the actual investment decision, they are not seen as speculative or aimed at profit-maximization.

Some investment management firms also have more speculative specialist currency overlay operations, which manage clients’ currency exposures with the aim of generating profits as well as limiting risk. Whilst the number of this type of specialist firms is quite small, many have a large value of assets under management (AUM), and hence can generate large trades.

Hedge funds

Hedge funds have gained a reputation for aggressive currency speculation since 1996. They control billions of dollars of equity and may borrow billions more, and thus may overwhelm intervention by central banks to support almost any currency, if the economic fundamentals are in the hedge funds’ favor.

Retail forex brokers

There are two types of retail broker: brokers offering speculative trading and brokers offering physical delivery i.e. the bought currency is delivered to a bank account.

Retail forex brokers or market makers handle a minute fraction of the total volume of the foreign exchange market. According to CNN, one retail broker estimates retail volume at $25–50 billion daily, which is about 2% of the whole market. Retail traders (individuals) are a small fraction of this market and may only participate indirectly through brokers or banks, and might be subject to forex scams

• its trading volumes,
• the extreme liquidity of the market,
• the large number of, and variety of, traders in the market,
• its geographical dispersion,
• its long trading hours: 24 hours a day (except on weekends),
• the variety of factors that affect exchange rates.
• the low margins of profit compared with other markets of fixed income (but profits can be high due to very large trading volumes)

Foreign exchange market turnover, 1998 - 2007, measured in millions of USD.

As such, it has been referred to as the market closest to the ideal perfect competition. According to the BIS,^[1] average daily turnover in traditional foreign exchange markets is estimated at $3.21 trillion. Daily averages in April for different years, in billions of US dollars, are presented on the chart below:

This $3.21 trillion in global foreign exchange market “traditional” turnover was broken down as follows:

• $1,005 billion in spot transactions
• $362 billion in outright forwards
• $1,714 billion in forex swaps
• $129 billion estimated gaps in reporting

In addition to “traditional” turnover, $2.1 trillion was traded in derivatives.

Exchange-traded forex futures contracts were introduced in 1972 at the Chicago Mercantile Exchange and are actively traded relative to most other futures contracts. Forex futures volume has grown rapidly in recent years, and accounts for about 7% of the total foreign exchange market volume, according to The Wall Street Journal Europe (5/5/06, p. 20).

Average daily global turnover in traditional foreign exchange market transactions totaled $2.7 trillion in April 2006 according to IFSL estimates based on semi-annual London, New York, Tokyo and Singapore Foreign Exchange Committee data. Overall turnover, including non-traditional foreign exchange derivatives and products traded on exchanges, averaged around $2.9 trillion a day. This was more than ten times the size of the combined daily turnover on all the world’s equity markets. Foreign exchange trading increased by 38% between April 2005 and April 2006 and has more than doubled since 2001. This is largely due to the growing importance of foreign exchange as an asset class and an increase in fund management assets, particularly of hedge funds and pension funds. The diverse selection of execution venues such as internet trading platforms has also made it easier for retail traders to trade in the foreign exchange market. ^[2]

Because foreign exchange is an OTC market where brokers/dealers negotiate directly with one another, there is no central exchange or clearing house. The biggest geographic trading centre is the UK, primarily London, which according to IFSL estimates has increased its share of global turnover in traditional transactions from 31.3% in April 2004 to 32.4% in April 2006. RPP

The ten most active traders account for almost 73% of trading volume, according to The Wall Street Journal Europe, (2/9/06 p. 20). These large international banks continually provide the market with both bid (buy) and ask (sell) prices. The bid/ask spread is the difference between the price at which a bank or market maker will sell (”ask”, or “offer”) and the price at which a market-maker will buy (”bid”) from a wholesale customer. This spread is minimal for actively traded pairs of currencies, usually 0–3 pips. For example, the bid/ask quote of EUR/USD might be 1.2200/1.2203 on a retail broker. Minimum trading size for most deals is usually 100,000 units of currency, which is a standard “lot”.

These spreads might not apply to retail customers at banks, which will routinely mark up the difference to say 1.2100 / 1.2300 for transfers, or say 1.2000 / 1.2400 for banknotes or travelers’ checks. Spot prices at market makers vary, but on EUR/USD are usually no more than 3 pips wide (i.e. 0.0003). Competition is greatly increased with larger transactions, and pip spreads shrink on the major pairs to as little as 1 to 2 pips.

CURRENCY TRADING SUMMARY � 07 APRIL 2008 (00:30GMT)

�                U.S. Dollar Trading (USD) was weaker on Friday as a result of a worse than expected Non-Farm Payrolls data release indicating employment fell by 80,000 in March, some 30,000 less than what was forecast. February�s figures were also revised to show a loss of 76,000 jobs rather than the 63,000 it originally reported, further indicating the world�s largest economy may be slipping into recession. Further to this news, the unemployment rate rose 0.3% to 5.1% its highest level in almost 3 years fuelling thoughts the Fed may cut rates yet again as early as the end of this month. The US share market had a mixed reaction to the weak economic data with the NASDAQ rising 7.68 points (0.3%) and the Dow Jones falling -16.61 points (-0.1%). Oil prices gained US$2.40 a barrel to US$106.23. Looking ahead, consumer credit data is to be released with forecasts expected to be 5.5, a drop from February�s figure of 6.9.

�                The Euro (EURO) remained strong against the major currencies in the wake of weak economic data being released out of the U.S on Friday. The EURUSD traded at a high of 1.5775 and a low of 1.5639, before closing at 1.5718 in the New York session. Looking ahead the Industrial Output for Germany is to be released on Monday with forecasts expecting a -0.5% contraction, following a 1.8% growth in February.

�                The Japanese Yen (JPY) strengthened on the back speculation of a slowdown in the global economy, the USDJPY had a high of 102.69 and a low of 101.47, before closing at 101.76 in the New York session.

�                The Sterling (GBP) closely tracked the U.S and showed a decline against the Euro. The weak U.S is expected to hurt U.K growth which is prompting traders to add to bets that the BoE may cut rates as early as next week to help sure up the economy. The GBPUSD traded at a high of 2.0049 and a low of 1.9912, before closing out at 1.9912 in the New York session.

�                The Australian Dollar (AUD) remained strong in the face of weak Retail Sales figures being released on Friday in the Asian session, before rallying in the U.S session after the release of Non-Farm Payroll figures. Sales figures contraction of -0.1% is indicative of RBA Governor Stevens� thoughts that there is a change in demand amongst consumers. The AUDUSD traded at a high 0.9228 and a low of .9101 before closing at .9217 in the New York session. Looking ahead, Trade Balance figures are to be released during the Asian session on Monday with forecasts expected to see the deficit narrow -$2500 million, following February�s figure of -$2723 million.

�                Gold (XAU) rose on Friday following a weaker U.S economic outlook and solid oil prices. Prices rose US$8.10 an ounce (0.9%) to US$917.70.

TECHNICAL COMMENTARY                                                   

�                Euro � 1.5731

Initial support at 1.5639 (Apr 4 low) followed by 1.5510 (Apr 3 Low). Initial resistance is now located at 1.5774 (Apr 4 high) followed by 1.5787 (Apr 1 high).

�                Yen � 101.56

Initial support is located at 1021.27 (38.2% retracement of the 98.56 to 102.95 advance) followed by 100.24 (61.8% retracement of the 98.56 to 102.95 advance). Initial resistance is now at 102.95 (Apr 3 high) followed by 103.59 (Mar 11 high).

�                Pound � 1.9930

Initial support at 1.9911 (Apr 4 low) followed by 1.9760 (Apr 3 low). Initial resistance is now at 2.0048 (Apr 4 high) followed by 2.0090 (Mar 28 high).

�                Australian Dollar � 0.9221

Initial support a 0.9100 (Apr 4 low) followed by 0.9024 (76.4% retracement of the 0.8953 to 0.9254 advance). Initial resistance is now at 0.9254 (Mar 27 high) followed by 0.9290 (61.8% retracement of the 0.9499 to 0.8953 decline).

�                Gold � 915.70

Initial support at 888.20 (Apr 3 low) followed by 873.00 (Apr 1 low). Initial resistance is now at 914.57 (Apr 4 high) followed by 921.00 (Apr 1 high).

More KRW weakness to come (March 17, 2008, 3:58 PM)
In the short run, the KRW should weaken further. Carry trade unwinding is expected to push USDKRW towards 1060 with peaks levels at 1100. Korean investors borrowed strongly in yen and are now reducing JPY short exposure. The 1060 are our new short term 3-month forecasts, up from previous 965.

NOK, SEK: suffer from higher risk aversion (March 17, 2008, 12:08 PM)
The broad risk reduction in the markets was negative for the NOK and SEK. EURNOK reached 8.07 and EURSEK nearly 9.49. In the current risk adverse environment both currencies will remain under pressure, but to recover longer term. We continue to prefer the NOK over the SEK.

CHF: skyrocketed after emergency Fed action (March 17, 2008, 12:05 PM)
The emergency Fed action pushed EURCHF temporarily to a near 3-year low at 1.5330 and USDCHF temporarily to an all-time low at 0.9645. We already heard the first outspoken concern from the SNB chief economist Kohli about the CHF rise. EURCHF will continue to follow global stock market performance.

Turkey: TRY down on risk reduction, politicals (March 17, 2008, 12:03 PM)
A court request for closure of the ruling party, AKP, was filed over the weekend. The request takes tensions between the secular establishment and the ruling party to a new level, and may not be resolved immediately. TRY lost approximately 2.4% against USD, due also to pressure on EM currencies.

Analysts were cited as saying, however, that Gulf states are unlikely to decouple suddenly from the dollar and predicted more measured moves towards links to a basket of currencies.

Faced with rising construction and labour costs, as well as severe recruitment problems, Gulf corporations are leading the call for currency reform, the paper said.

“Human resources are becoming scarce. Supplies are becoming scarce. De-pegging would help a great deal,” Khalil Sholy, the president of Qatar’s United Development Company was cited as saying.

Reports emerged last week that Gulf central banks were organising meetings this Wednesday, March 19, and on April 14 to discuss the possibility of depegging their currencies from the dollar.

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Different currencies are priced together in pairs.
The most commonly traded currency pairs are :

· EUR/USD - Euro/Dollar
· USD/CHF - Dollar/ Swiss Franc
· USD/JPY  - Dollar /Yen
· GBP/USD - Pound /Dollar
· USD/CAD - Dollar/Canadian Dollar
The first currency is called the base currency and the second currency is the qoute or counter currency.
A quote figure shows how much the base curreny is worth in the counter currency .
For example if EUR/ USD is quoted 1.023 it means that 1 Euro is worth 1.023 USD

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GLOBAL TRADE: Strong economies import less goods than they export. This is known as trade balance. If world prices for what a country exports rise in comparison with the cost of that country’s imports, that country will be earning more for its exports than it pays for its imports. The greater the demand for a country’s exports the more demand there will be for that country’s currency.

INFLATION: If a country’s inflation rate is high, investors are less likely to invest there, even with higher interest rates.The expectation is that the value of that currency (hence investment) will be eroded by inflation. A lower inflation rate attracts investors hence drives up demand for that country’s currency because there will be no expectation that the value of the investment will be eroded by inflation. POLITICAL STABILITY: Political governance is a major factor in how a country’s economy performs. Bad politics drives away investment. Government must implement effective monetary policies to control inflation and interests rates. Excessive Government spending drives inflation therefore reduces the demand for a particular currency.

No prizes for answering the above. The word Forex consists of two words FOReign and EXchange.

Definition: Forex is a cash market where currencies are traded against each other

The word can be shortened to FX hence the full name for this site becomes Foreign Exchange Academy.

The Forex market is not exactly a single physical location. It can be in a bank, forex bureau, travel agent or wherever trading of one currency for another occurs.
It is an over the counter market. Major Buyers and sellers are banks, governments, corporation , investors, private individuals .These parties exchange currencies at the current going rate known as the spot price.

2. What Drives the Forex Market?

Different countries use different currencies, however cross-border trade has to take place.
The Forex market is therefore a vehicle driven by the need to move monetary payments across borders and transfer funds and value from one currency to another. If the whole world used one currency there would be no need for the forex market.

For example if a US restaurant needs to buy Italian cheese it needs Euros to pay the Italian cheese maker so it must be able to exchange US dollars for Euros.
Likewise if the US restaurant makes the payment in US Dollars the Italian cheese maker must be able to change the Dollars into Euros. It’s as simple as that.

3.Exchange Rates?

What then is the rate used to exchange one currency for another?
How many Euros are exchanged for one US Dollar?
This rate is where the ‘Forex game’ begins. What does this rate depend on?

Several conditions affect the rate of one currency against the other. The most significant factors that move currency rates are interest rates, global trade, inflation, and political stability.

Many other factors determine currency rates and these will be examined next.