What Is the Foreign Exchange Market? A Comprehensive Guide to Forex Trading for Beginners

Foreign Exchange Market (Foreign Exchange Market) - Basic Definitions

In recent years, forex trading has increasingly attracted the attention of Vietnamese investors. However, there are still common misconceptions about the foreign exchange market and how it operates.

Foreign exchange market (or Forex, FX) is a decentralized market where currencies are traded. Broadly defined, forex can include:

• Foreign currencies: USD, EUR, AUD, JPY, and other international currencies
• International payment instruments: international bank cards, bills of exchange, money orders
• Certificates of value: government bonds, international company stocks
• Cryptocurrencies: Bitcoin, Ethereum, and other digital currencies
• Gold: precious metals also considered a form of forex

In the context of modern trading, foreign exchange market mainly refers to the market where traders buy, sell, and exchange currency pairs to profit from exchange rate fluctuations.

How Does the Foreign Exchange Market Work?

Market Size and Characteristics

The forex trading market is one of the largest financial markets worldwide, with an average daily trading volume of up to 5.3 trillion USD. This figure shows that the foreign exchange market is extremely dynamic and highly liquid.

Compared to other markets like stocks or bonds, Forex remains the leader in scale. The constant volatility of exchange rates creates countless opportunities for profit for market-savvy traders.

Major Currency Pairs Traded

Although over 30 major currencies are traded on the forex market, the “main” currency pairs account for up to 85% of the market value and have the highest liquidity.

Major currency pairs include:

• EUR/USD (Euro / US Dollar)
• USD/JPY (US Dollar / Japanese Yen)
• GBP/USD (British Pound / US Dollar)
• AUD/USD (Australian Dollar / US Dollar)
• USD/CHF (US Dollar / Swiss Franc)
• NZD/USD (New Zealand Dollar / US Dollar)
• USD/CAD (US Dollar / Canadian Dollar)

In each currency pair, there are two components: base currency (the currency on the left) and quote currency (the currency on the right). The exchange rate indicates the relative value between these two currencies.

How Does Forex Trading Work?

Basic Principles of Trading

To trade forex, you need to predict the direction of exchange rate movements and place corresponding orders. There are two main trading directions:

1. Buy (Long): You buy a currency pair expecting the price to rise. When the rate increases, you sell to make a profit.

2. Sell (Short): You short-sell a currency pair expecting the price to fall. When the rate decreases, you buy back to profit.

Real Trading Example

Suppose you decide to trade the EUR/USD pair. Currently, the rate is 1.1500 (meaning 1 EUR = 1.1500 USD).

You predict the Euro will appreciate, so you use 11,500 USD to buy 10,000 Euros. Two weeks later, the rate rises to 1.2500. At this point, you decide to sell 10,000 Euros and receive 12,500 USD.

Result: You earn a profit of 1,000 USD from this trade.

However, a key feature of the Forex market is that you do not need a large capital to execute big trades. Through leverage (leverage), you only need to deposit a small margin (for example, 60 USD) to control a trade worth tens of thousands of dollars.

Terms and Concepts to Understand

To trade Forex effectively, you must familiarize yourself with industry-specific terms:

Leverage (Leverage): A tool that allows you to trade with a larger amount of money than your actual capital. Leverage ratios are expressed as 50:1, 100:1, 200:1, etc.

Margin (Margin): The amount of money you need to deposit with the broker to open and maintain a trading position. This is the required capital to participate in the market.

Pip (Pip): The smallest unit to measure exchange rate movements. For example, if EUR/USD moves from 1.2000 to 1.2005, that change is 5 pips.

Spread (Spread): The difference between the bid price (buy price) and the ask price (sell price). This is the main source of income for forex brokers.

Lot (Lot): The quantity of currency units you buy or sell. There are various lot sizes, from nano (100 units), micro (1,000 units), mini (10,000 units), to standard lots (100,000 units).

Factors Affecting the Foreign Exchange Market

The forex market is influenced by many different forces:

Central Bank Policies

Central banks control the money supply and implement policies that directly impact exchange rates. For example, quantitative easing (increasing money supply) often causes the currency to depreciate.

Economic and Financial News

Positive economic news about a country can stimulate demand for its currency. If the money supply does not increase proportionally, the currency will appreciate.

Market Sentiment

Traders often act based on their expectations of market direction. When many traders believe a currency will strengthen, they buy, increasing demand and pushing the price up.

Political Factors

Major political events, elections, or conflicts can significantly impact exchange rates.

Advantages of Investing in the Forex Market

Very Low Trading Costs

The forex market has the lowest trading costs compared to other financial markets. You do not pay management fees, brokerage commissions, or high taxes. The main revenue source for brokers is the spread—the difference between buy and sell prices.

24-Hour Market

Unlike stock markets or other markets with closing hours, Forex operates 24/7 worldwide. This allows you to trade at any time that suits your schedule.

No Market Manipulation

With its enormous scale and countless participants, no single organization, institution, or bank can control the entire Forex market. This ensures fairness and transparency for all traders.

Leverage Power

Through leverage, you can control a position much larger than your margin deposit. For example, with 200:1 leverage, you only need 100 USD to trade 20,000 USD.

Low Entry Barriers

You can start trading Forex with just a few hundred thousand VND in margin. This is completely different from stock markets, real estate, or other assets that require larger capital investments.

8 Steps to Start Forex Trading

Step 1: Learn Basic Concepts

Before trading, you need to understand key terms such as Long, Short, Leverage, Margin, Pip, Spread, and Lot. These concepts are the foundation for understanding trading tools and placing orders accurately.

Step 2: Understand Types of Markets

There are many ways to trade forex:

Spot Forex Market: Immediate trading with settlement within 2 business days. This is the most common market for banks and financial institutions.

Forex CFD (Contract for Difference): You do not actually own the currency but speculate on price differences. This is the most popular form in Vietnam (about 99% of Forex brokers).

Currency Futures: Futures contracts that allow trading on a specific future date at a predetermined price.

FX Options: You predict whether the price will rise or fall relative to a fixed level at the end of the trading period.

Currency ETFs: Exchange-traded funds tracking the relative value of a currency against USD.

Step 3: Choose a Reputable Broker

The most important criterion is that the broker must be licensed by international regulatory agencies such as ASIC ###Australia(, FCA )UK###, CySEC ###Cyprus###. Additionally, compare factors like trading costs, brokerage fees, trading products, and platform interface.

( Step 4: Open a Trading Account

To open an account, you need to provide:

• ID card )both sides(
• Email and phone number
• Bank account information

) Step 5: Select Currency Pairs to Trade

Analyze factors to predict price directions:

Economic Conditions: If the US economy weakens, the USD will be negatively affected. You might sell USD to buy the currency of a stronger economy.

Trade Balance: Countries with high exports will receive more foreign currency, stimulating the economy and increasing their currency value.

Political Situation: Major political events, elections, or policy decisions directly influence the currency.

Step 6: Determine Margin

Calculate margin requirements according to broker policies. A useful rule: only invest about 2% of your margin in each trade. For example, trading 100,000 USD with 1% margin requires a margin deposit of 1,000 USD.

( Step 7: Decide to Buy or Sell

BUY )Long( a currency pair if you believe the base currency will strengthen against the quote currency:

• Profit increases with upward movements
• Losses occur if the rate falls

SELL )Short### a currency pair if you believe the base currency will weaken:

• Profit increases with downward movements
• Losses occur if the rate rises

( Step 8: Use Risk Management Orders

Stop-loss )Stop Loss( and take-profit )Take Profit( orders are essential tools:

Stop Loss: Automatically closes the trade when the price drops to your specified level, minimizing losses.

Take Profit: Automatically closes the trade when the price reaches your target profit level.

Example: EUR/USD is currently 1.11128. You predict it will rise to 1.2000 then fall. You set a limit sell order at 1.2000. When the rate hits this level, the sell order executes automatically.

) Step 9: Monitor and Adjust

Most importantly, avoid emotional trading. The market fluctuates constantly, but you need to stick to your strategy. Continue researching, analyzing, and improving your trading skills to achieve long-term profits.

Who Participates in the Forex Market?

Main participant groups include:

Governments and Central Banks: Engage in trading to regulate currency prices, ensure foreign currency supply, and support national economies.

Large Commercial Banks: Account for most trading volume, executing large transactions for clients.

Forex Brokers: Provide trading services for retail investors.

Retail Investors: Make up about 1/3 of daily trading volume, roughly 1.7 trillion USD out of the total 5 trillion USD daily.

Notes on Regulations and Trading Safety

The forex market is enormous but less regulated because there is no single governing body. Instead, different regulatory organizations oversee based on country:

In the US, the main agencies are CFTC (Commodity Futures Trading Commission) and NFA (National Futures Association).

To ensure safety, choose brokers licensed by reputable authorities like ASIC Australia, FCA UK, CySEC Cyprus.

Conclusion

Foreign exchange market is a huge and highly active financial market with countless profit opportunities. With transparency, low entry costs, small capital barriers, Forex becomes an attractive choice for investors worldwide.

However, the forex market also carries risks. Success requires understanding fundamental knowledge, continuous practice, careful risk management, and following your trading strategy.

Start small, learn from experience, and gradually build your trading skills to succeed in the world of forex trading.