When you think of currency, your first thought is probably to do with its utility; you either spend money to buy something now or save it to buy something later. But currency can also be traded - and there are plenty of people who do this for a living every day.

But what exactly is currency trading, how does it work and what opportunities exist for currency trading as an alternative asset?

In this guide we’ll cover:

• Currency trading - the basics
• What does a professional currency trader do? A day in the life of a currency trader
• How can an everyday investor get started in currency trading?
• Tools and resources

Currency trading - the basics

Currency trading, also known as forex (foreign exchange or FX) trading, involves the exchange of one currency for another with the aim of making a profit. It is the largest and most liquid financial market globally, with a daily trading volume exceeding $7 trillion.

Just like stock trading, currency trading happens on a market. But for currencies, rather than stock markets, they are traded on currency markets.

The foreign exchange market is where currencies are traded. Unlike stocks, it has no central marketplace but is rather a global network of computers and brokers from worldwide. It is known as an “over the counter” market (OTC) which means that trading happens without a single, centralized exchanges.

The forex market operates 24 hours a day, five days a week Monday to Friday, across major financial centers worldwide, including London, New York, Tokyo, and Sydney. This continuous trading is facilitated by overlapping market sessions.

How currency trading works

All forex transactions involve what’s known as “currency pairs”. A pair refers to two currencies. For example a currency pair might be EUR / USD (Euros and US dollars).

The price of a currency can be impacted by various different factors including things like: inflation rates, geopolitical events (like Brexit for example), economic shocks, market sentiment and political instability. A Forex trader has to adapt to different factors and trade accordingly.

Let’s take a look at an example together to bring all of the important concepts to life.

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Trading EUR / USD - example from FT

Here’s a screenshot from the FT which shows the currency pair Euro / USD. As we mentioned just now, Forex trading is conducting in pairs. In this case, we’re looking at the price of a Euro / USD pair.

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Another point to notice is the description of the Euro/USD pair as the “spot rate”. The spot rate simply describes the current price at which a currency can be exchanged. The "spot" price is used for immediate transactions, as opposed to futures or forwards.

In this case, the spot rate is 1.0918, meaning 1 Euro is equivalent to 1.0918 US Dollars.

Here’s a breakdown of everything else we can see on this chart:

Today's Change -0.001 / -0.12%:

• This shows the change in the exchange rate from the previous trading session. The exchange rate has decreased by 0.001 USD, or 0.12%, indicating a slight weakening of the Euro against the Dollar during that trading day.

1 Year Change -0.26%:

• This indicates the percentage change in the exchange rate over the past year. A -0.26% change means that the Euro has depreciated slightly against the US Dollar over the last 12 months.

52 Week Range 1.0447 - 1.1139:

• This shows the lowest and highest exchange rates for the EUR/USD pair over the past 52 weeks. The range indicates that in the last year, the Euro has fluctuated between 1.0447 and 1.1139 US Dollars.

Hypothetical example

Now let’s imagine we decide to try some forex trading ourselves. How would that work?

Suppose the EUR/USD is trading at 1.0918. This means that 1 Euro (EUR) is equivalent to 1.0918 U.S. Dollars (USD). We believe that the Euro will appreciate against the U.S. Dollar. This means we expect the exchange rate to increase.

As a result, we buy (go long) on the EUR/USD pair at the current rate of 1.0918. We purchase €10,000, which costs $10,918 (10,000 x 1.0918 USD).

Later, the exchange rate moves to 1.0968 - up from 1.918 USD.

This means the Euro has strengthened, and it now costs 1.0968 USD to buy 1 Euro. If we now decided to sell our €10,000 at the new rate of 1.0968, we would receive $10,968 (10,000 x 1.0968 USD).

In this example, we would have made a profit of $50. Not bad.

Key concepts and terminology relating to Forex

Currency trading, like a lot of the finance world, is full of weird and slightly intimidating terminology which can be off putting for first time investors.

Here’s a selection of some of the ones worth knowing about:

• Pips: The smallest price move in forex trading is called a pip. In this example, the movement from 1.0918 to 1.0968 is a change of 50 pips.
• Spread: The difference between the buying (ask) and selling (bid) price is known as the spread. For a position to be profitable, the market price must move beyond the spread.
• Rollover: If the trader holds the position overnight, they may receive or pay a rollover fee based on the interest rate differential between the Eurozone and the U.S. If the Eurozone's interest rate is higher, the trader might receive a small credit.

What does a professional currency trader do? A day in the life of a currency trader

Forex traders often start their day early to catch up on global market developments that occurred overnight. This includes reviewing economic news, market sentiment, and any geopolitical events that might impact currency movements.

Traders begin by analyzing charts and market conditions. This involves looking at technical indicators and setting up potential trades for the day. They might focus on specific currency pairs like EUR/USD or USD/JPY, depending on their strategy.

Depending on their strategy, traders may engage in active trading during major market sessions, such as the London or New York sessions. Day traders, in particular, focus on short-term price movements and may execute multiple trades throughout the day.

Currency traders can be a single individual or a trader working at a larger organisation, too. This can include investment banks like JP Morgan, Goldman Sachs and Citibanks, hedge funds and investment management firms, proprietary trading firms or central banks like the Federal Reserve, European Central Bank and the Bank of England.

To bring things to life in a bit more detail, here’s a day in the life of a Forex trader

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How can an everyday investor get started in currency trading?

You don’t need to be a professional investor to get started in Forex trading and all most folks need to get started is to get set up with a brokerage firm.

Brokerage firms for Forex include:

• eToro
• Forex.com
• Saxo bank
• XTB

Many of these brokerage firms will also allow you to get set up with a demo account which lets you simulate trading before taking the plunge to spend real cash. This can really help to get to grips with the basics first before spending anything, if Forex trading is something you’re interested in.

Compared to other asset classes like stocks, Forex is fairly volatile as they can be significantly impacted by economic news and geopolitical events. But they are still less volatile than crypto - which is probably the most volatile asset of all!

Tools and resources

• Forex calculator - this allows you to input currency pairs to calculate
• Forex demo account - allows you to sign up and create a demo account to simulate trades

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Hope you've found this helpful!

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Jason

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DISCLAIMER: None of this is financial advice. Finbrain is strictly for educational purposes.