There is no central location for the foreign exchange market, often referred to as the forex (FX) market. Transactions in the foreign exchange market take place in many different forms, 24 hours a day, through different channels all over the globe, and wherever one currency is exchanged for another.
- The foreign exchange (forex) market is the largest and most liquid asset market on earth, trading 24/7 around the globe.
- There is actually no central location for the forex market - it is a distributed electronic marketplace with nodes in financial firms, central banks, and brokerage houses.
- 24/7 forex trading can be segmented into regional market hours based on peak trading times in New York, London, Sydney, and Tokyo.
The Forex Market
The foreign exchange market is considered one of the most exciting fast-paced financial markets. Historically, the foreign exchange market has been accessible only to large institutions, central banks, and the wealthy. However, online trading platforms have opened up the market to all individuals who would like to explore online currency trading.
Currency traders make predictions based on global economic indicators, and buy and sell accordingly. Traders use data to analyze currencies and countries and apply economic forecasts to predict movements in a currency's value. Foreign exchange trading is characterized by high leverage. This is risky but it gives traders the opportunity to achieve dramatic gains and losses with far less capital than is required for other markets.
The FX market is decentralized and distributed, with no real central location. Instead electronic trading is situated within the following locales:
- retail forex brokers
- central banks
- commercial businesses
While a 24-hour market offers a considerable advantage for many institutional and individual traders, it also has its drawbacks because it guarantees liquidity and the opportunity to trade at any conceivable time. Although currencies can be traded anytime, a trader can only monitor a position for so long. This means that there will be times of missed opportunities, or worse – when a jump in volatility will lead to a movement against an established position when the trader isn't around. A trader needs to be aware of times of market volatility and decide when is best to minimize this risk based on their trading style.
Traditionally, the market is separated into three peak activity sessions: the Asian, European and North American sessions. These three periods are also referred to as the Tokyo, London and New York sessions. Sometimes a fourth, Australian (Sydney) session is used that fills in the gap between New York and Tokyo hours.These national or city names are used interchangeably, as the cities represent the major financial centers for each of the regions. The markets are most active when these three powerhouses are conducting business, as most banks and corporations make their day-to-day transactions in these regions and there is a greater concentration of speculators online.
Retail Forex Brokers
These brokers offer speculative trading to the individual retail trader. This area of the forex market is very small compared to the total volume of currency exchanged worldwide. Forex brokers provide currency traders access to a trading platform that allows them to buy and sell foreign currencies. Through these brokers, currency traders can access the 24-hour currency market.
By purchasing and selling currencies, central banks try to control their money supply, interest rates, and inflation. Whether official or not, nations often have target exchange rates for their currencies, and a nation's central bank can often use their reserves of national and foreign currency to try and stabilize the market for their currency.
Whenever a company has to purchase from or sell to a company in a foreign nation, a foreign exchange transaction is likely to occur. For example, a U.S.-based company may need to purchase euros to pay an invoice to a French company, or the French company may have to purchase U.S. dollars to pay a U.S.-based invoice. In both of these cases, a foreign exchange transaction needs to occur. Companies that deal with foreign customers or suppliers often take this one step further and purchase or sell currencies as a hedge against future exchange rate movement. By locking into today's exchange rates, companies can take exchange rate risk out of the equation.
The interbank market represents the largest portion of the forex market and is inclusive of the above trading areas. Customers often turn to banks to intermediate their foreign exchange transactions, and banks often trade their own accounts as well.
Because there is no central location for forex trading, there is no central body controlling prices and the actions of many players. This is a new and lucrative area for speculation, but investors should be aware of and heed the risks when trading in foreign exchange.