How Forex works: brokers, liquidity, volatility

Welcome to the first lesson of our Forex Basic course

In this lesson you will learn:

• what Forex is and how you can earn on it
• what liquidity is and why is it an important feature of Forex
• how a broker helps you enter the Forex market
• what volatility is and how to benefit from it.

What Forex is

Forex is an abbreviation of FOReign EXchange. It describes the conversion of one currency into another currency, and also refers to the global financial market, where currencies are traded online around the clock. There is a misconception that to start trading Forex you need either be a millionaire or Harvard graduate. Let’s dispel it. Thousands of people buy and sell currencies without notice while professional traders consciously benefit from it. Think about when you’ve travelled abroad on holiday. To pay for local goods and services you needed to exchange your money. If while you were on holiday the unemployment rate in the US fell and the dollar increased in value by 5%, then when you exchanged your surplus foreign currency back, you’d make a 5% profit in your local currency. In this way you’ve earned on a difference of currency rates by buying and selling currencies. The same process applies even with corporations. For example, an American company needs to buy machinery in Germany. To pay for them they need to obtain the local currency first, just like you do when going on holiday. The only difference is that companies exchange much larger amounts and create supply and demand on a particular currency. Supply and demand can move market prices. When the world needs more euros, the price of the euro increases, and when there are too many dollars circulating, the price drops. To balance the market, central banks regulate the overall volume of their national currencies by adjusting the refinancing rate. That's why traders constantly monitor world news.

Liquidity

Assume you hold two currencies - dollars and tenge - which one is more liquid, or which one will be sold faster? You will surely find a buyer for a dollar immediately, as it is the most exchanged currency in the world. However tenge will stay with you for a while, until you find a buyer who needs such an exotic currency. What if you need to sell 1 million of dollars as soon as possible? That would not be a challenge on Forex. In Forex, liquidity means the possibility to buy or sell significant volumes of currency at market price without any delays. The Forex market is so liquid because the main Forex players such as banks, central banks, hedge funds and corporations constantly buy and sell huge amounts. This creates another question: How you can enter the market without having such huge amounts of currency?

Meet a broker

A broker is an intermediary between traders and other Forex market players. OctaFX broker helps people to enter the market with smaller amounts of currency. OctaFX provides its traders with the most beneficial quotes by combining price quotations from several market participants and liquidity providers. That is possible because of electronic communications network (ECN) technology. Such networks allow instant order execution, cooperation with trading platforms, automated trading processes and secure transactions. OctaFX provides you with a leverage which allows you to multiply your profit. With up-to-date trading apps you can trade online 24/5, and from anywhere you wish.

How you can earn on Forex

If you look at the EURUSD chart, you can see that the price of the euro against the dollar is constantly changing. Economic news and market events influence the price all the time. Assume you know in advance that according to the ‘National Statistics Service report’ the unemployment rate in Europe has decreased, then the price of the euro will increase and you should buy euros. Or if you know that due to the latest records of ‘Statistics Portugal’ there is a deficit in the trade balance and that will make the value of euro fall, you should sell your euros.

Volatility

Volatility measures price variations over a specified period of time. It increases when macroeconomic factors such as inflation, unemployment and GDP become more variable. Higher volatility creates trading opportunities you can benefit from by keeping up with financial news. For example, if you know from news that the inflation rate in Europe will decrease then you can earn by buying EURUSD at the lowest point, and selling at the highest point.

Let’s summarise what we’ve learned from this lesson:

1. Forex is the global financial market where currencies are traded online around the clock.
2. Even if you’re not trading on the Forex market you can earn on a difference of currency rates by buying and selling currencies.
3. Liquidity means the possibility to buy or sell any volume of currency instantly at the market price. It is the main positive feature of Forex.
4. OctaFX helps people to trade Forex providing the most beneficial quotes with the help of ECN technology and up-to-date trading applications.
5. Volatility is a measurement of price variations over a specified period of time. A volatile market gives an opportunity to earn more profit, but to benefit from it you need to monitor market news. In the next lesson you will learn how to calculate the potential profit and risks of your order and how to control huge amounts of currency without investing heavily.