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The different ways of trading forex: Part 2

The different ways of trading forex: Part 2


Another interesting week in markets as the week comes to an end. We could see more volatility as $2.1 trillion option notional expires. Read below to find out more.

When one country’s currency is converted into another country’s currency, it is known as foreign exchange on the global market. 

Exchanging national currencies for foreign currencies is another phrase for this. The foreign exchange rate is the rate at which international exchange occurs. The market forces of supply and demand determine the exchange rates, which is why they are not constant and continuously fluctuate.

The US dollar, the Euro, the Japanese Yen, the British Pound, and the Australian Dollar are the most commonly used international currencies. The US dollar is the world’s most popular foreign currency.

The Euro and US dollar are considered to be the most frequently utilized currency pair in the forex market. Hence, represent the vast global economy. The exchange of currencies at the bank is as easy as forex trading. Financial institutions such as banks, insurance firms, pension funds, enterprises, and other similar organizations, are the key participants in the currency markets. 

Most foreign exchange is traded at the FX market (also known as the forex market) when visitors visit another nation and when import and export between two countries occur. Users of the foreign exchange market utilize a variety of mechanisms to reduce their risk of loss. These are known as financial instruments which are intended to arbitrage or protect against the exchange rate risk associated with foreign exchange transactions. 

In part 1, we discussed about Currency Futures, Currency Options, Currency ETFs and Spot FX. In part 2, we will provide a detailed description about retail forex, forex spread bet and forex CFDs

Retail Forex

The Retail (“poorer”) traders have access to a secondary Over-The-Counter (OTC) market that allows them to participate in the FX market. Access to these markets are granted by “forex trading providers”.

On your behalf, forex trading service providers** transact in the main OTC market. Before presenting the prices on their trading platforms, they evaluate the best possible prices that are currently offered and then apply a “markup.”

This is comparable to how a retail store purchases merchandise from a wholesale market, marks it up, and then charges clients what is known as a “retail” price.

**Forex trading service providers also known as “forex brokers”. Strictly speaking, they are not brokers because a broker is only supposed to serve as an intermediary (“for two parties”) i.e. between a buyer and a seller. However, this not the case because your counterparty is a currency trading provider. Therefore, it serves as the seller if you are the buyer and vice versa. Since “forex broker” is the phrase most people are familiar with, we’ll continue to use it to keep things straightforward for the time being, but it’s crucial to understand the distinction.

Despite the fact that a “spot forex” contract often calls for currency delivery within two days, in actuality, no one really takes delivery of any currency in forex trading. At delivery time, the position is “rolled” forward, particularly in the retail foreign exchange market.

It is important to note that you are actually trading a contract for the delivery of the underlying currency, not the actual currency. It’s a leveraged contract, not just a simple contract.

Leveraged spot forex contracts cannot be “taken or made delivery” by retail forex dealers. By using leverage, you can control enormous sums of money for a tiny investment. Because retail forex brokers allow trading with leverage, you can open positions worth up to 50 times the original needed margin.

So, by investing $2000, you can start a EUR/USD trade valued at $100,000. Just imagine having to deliver euros worth $100,000 if you went short on EUR/USD. Considering that you only had $2,000 in your account, you would not be able to settle the contract in cash. You lacked the money necessary to complete the transaction! Hence, you must either “roll” the trade over or close it before it settles.

Retail forex brokers automatically “roll” client positions to avoid the inconvenience of physical delivery.

A spot forex transaction is referred to as a “rolling spot forex transaction” or “rolling spot FX contract” when it is not physically delivered but simply carried forward endlessly until the trade is closed. It is referred to as a “retail FX transaction” in the US by the CFTC.

You can avoid having to receive (or deliver) 100,000 euros by doing this.

By engaging in an equal but opposite transaction with your forex broker, retail forex transactions are closed out. For instance, if you used U.S. dollars to purchase British pounds, you would close out the trade by exchanging your British pounds for U.S. dollars. Offsetting or liquidating a transaction is another name for this.

At the end of the business day, any positions that are still open will be automatically carried over to the following value date to prevent currency delivery. Until the spot contract is concluded, your retail forex broker will automatically keep rolling it over for you.

If you have a position left open at the close of the business day, it will be automatically rolled over to the next value date to avoid the delivery of the currency.

Until the spot contract is concluded, your retail forex broker will automatically keep rolling it over for you.

“Tomorrow-Next” or “Tom-Next,” which stands for “Tomorrow and the next day,” is the process of rolling the currency pair over.

When positions are rolled over, the trader either pays or earns interest as a result.

These chargeable amounts are also referred to as exchange fees or rollover fees. Your forex broker will determine the fee for you and either debit or credit the balance of your account.

Forex retail trading is seen as speculative. In other words, traders are attempting to “speculate” or place bets on the fluctuation of currency rates in order to attain a financial gain. They don’t intend to deliver the currencies they sell or take physical ownership of the ones they buy in person.

Forex Spread Bet

Spread betting is a derivative product, so you don’t actually own the underlying asset; instead, you make predictions about whether you think its price will go up or down.

You can make a prediction about the potential movement of the price of a currency pair using a forex spread bet.

The price of a currency pair that is utilized in a spread bet is “derived” from the price of the currency pair on the spot FX market.

Your profit or loss depends on how much you bet per “point” of price movement and how much the market moves in your favor before you close your position.

Spread betting companies” offer spread betting on foreign exchange.

Spread betting is regrettably forbidden if you reside in the United States as it is seen as a form on Internet gambling. Spread betting is prohibited in the United States even though it is governed by the UK’s Financial Services Authority (FSA. 

Forex CFD

Financial derivatives include contracts for difference (CFDs). The market price of an underlying asset is tracked by derivative products so that traders can predict price movements that rise or fall.

The price of the underlying asset is “derived” into the price of the CFD.

In a CFD, one party agrees to pay the other the difference in the value of a security between the opening and closing of the trade. Typically, this agreement is made between a CFD provider and a trader.

Here, the CFD provider and you agree that whomever wins the bet will pay the other the difference between the asset’s price when you enter the trade and its price when you exit the deal. In other words, a CFD is essentially a wager on whether a specific asset will increase or decrease in value.

A contract (“agreement”) to swap the price difference between when you open and close a position in a currency pair is known as a forex CFD.

The price of a currency pair in a CFD is “derived” from the price of a currency pair on the spot FX market. (Or it ought to be. If not, what factors does the CFD provider’s price depend on?

You have the opportunity to trade a currency pair in both directions when you trade forex CFDs. Both long and short positions are accessible.

You would make money if the price moved in the direction you had picked; otherwise, you would lose money.

According to regulators in the EU and UK, the “rolling spot FX contracts” are distinct from the conventional spot FX contract, 

The major justification for this is that with rolling spot FX contracts, there is no real desire to really take physical delivery (“ownership”) of a currency; rather, their sole function is to merely engage in price movement on the underlying currency.

Gaining exposure to price changes associated with the underlying currency pair without really holding it is the goal of trading a rolling spot FX contract.

Hence, a rolling spot FX contract is treated as a CFD in order to make this distinction evident. (Since CFDs are not legal in the US, it is referred to as a “retail forex transaction”).

The “CFD providers” offer forex CFD trading. Retail forex trading outside of the US is typically conducted via CFDs or spread bets.

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