Foreign Exchange Market
The foreign exchange market, also known as foreign exchange (FX) or the currency market, is the world's largest and most liquid market. It represents the exchange of one country's currency for another and serves a variety of purposes, from travelers exchanging money to global financing.
- Market Size and Liquidity
With over $7.5 trillion in currency trading volume each day, the foreign exchange market has a significant impact on the global economy. By comparison, the five-day average daily trading volume (ADTV) for U.S. stocks and options is expected to be approximately $400 billion by 2024. This highlights the huge size and liquidity of the foreign exchange market. - Currency Pairs and Participants
Approximately 75% of foreign exchange trading is concentrated in seven major currency pairs, all of which include the U.S. dollar (USD). Major participants in the market include governments, large international banks, regional banks, corporations, and individual traders. - Continuous Trading
Forex trading occurs 24 hours a day, with active trading centers varying by time zone. This continuous operation ensures that currency trading is always available regardless of geographic location. - Global Economic Impact
The sheer size and liquidity of the foreign exchange market influences the prices of imported and exported goods, which in turn affects consumers around the world. Its role in global finance makes it a key component in the international economic landscape.
Major Currency Pairs
Currency pairs consist of two currencies traded against each other. While there are hundreds of combinations available, the following seven major currency pairs are the most popular. They are known for their high liquidity, low trading costs, and significant market participation, making them the most widely traded pairs in the forex market.
- EUR/USD: Euro and US Dollar
- USD/JPY: US Dollar and Japanese Yen
- GBP/USD: British Pound and US Dollar
- AUD/USD: Australian Dollar and US Dollar
- USD/CHF: US Dollar and Swiss Franc
- USD/CAD: US Dollar and Canadian Dollar
- NZD/USD: New Zealand Dollar and US Dollar
Base Currency and Quote Currency
The base currency is always on the left side of the currency pair, while the quote currency is always on the right. The base currency is always equal to 1, while the quote currency is equal to the current quote of the currency pair – this indicates how much of the quote currency it costs to buy one base currency. Therefore, when you trade currencies, you are always selling one currency to buy another.
Pips in Forex trading
In forex trading, a pip is typically a movement in the fourth decimal place of a currency pair. For example, if EUR/USD moves from 1.08257 to 1.08267, that is a movement of one pip.
For currency pairs involving the Japanese yen (JPY), a pip is a movement in the second decimal place.
Many brokers also quote prices to an additional decimal place. This fifth decimal place (or third decimal place for JPY pairs) is called a point, which represents one-tenth of a pip.
Lots in Forex trading
Currencies are traded in “lots”, which standardizes the unit of Forex trading. Because Forex price movements are usually small, trading units tend to be large. For example, a standard lot is 100,000 units of the base currency.