What Is Foreign Exchange (Forex)?
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Foreign Exchange (forex or FX) is the trading of one currency for another. For example, one can swap the U.S. dollar for the euro. Foreign exchange transactions can take place on the foreign exchange market, also known as the forex market.
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The forex market is the largest, most liquid market in the world, with trillions of dollars changing hands every day. There is no centralized location. Rather, the forex market is an electronic network of banks, brokers, institutions, and individual traders (mostly trading through brokers or banks).
KEY TAKEAWAYS
- Foreign Exchange (forex or FX) is a global market for exchanging national currencies with one another.
- Foreign exchange venues comprise the largest securities market in the world by nominal value, with trillions of dollars changing hands each day.
- Foreign exchange trading utilizes currency pairs, priced in terms of one versus the other.
- Forwards and futures are another way to participate in the forex market.
Understanding Forex
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Forex exists so that large amounts of one currency can be exchanged for the equivalent value in another currency at the current market rate.
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Some of these trades occur because financial institutions, companies, or individuals have a business need to exchange one currency for another. For example, an American company may trade U.S. dollars for Japanese yen in order to pay for merchandise that has been ordered from Japan and is payable in yen.
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A great deal of forex trade exists to accommodate speculation on the direction of currency values. Traders profit from the price movement of a particular pair of currencies.
Forex Pairs and Quotes
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Currencies being traded are listed in pairs, such as USD/CAD, EUR/USD, or USD/JPY. These represent the U.S. dollar (USD) versus the Canadian dollar (CAD), the Euro (EUR) versus the USD, and the USD versus the Japanese Yen (JPY). -
There will also be a price associated with each pair, such as 1.2569. If this price was associated with the USD/CAD pair it means that it costs 1.2569 CAD to buy one USD. If the price increases to 1.3336, it now costs 1.3336 CAD to buy one USD. The USD has increased in value (the CAD has decreased) as it now costs more CAD to buy one USD.
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