In contrast to financial markets like the New York Stock Exchange, the foreign exchange market does not have a physical location nor does it have a central exchange point where trading occurs.
The foreign exchange market is known as an Over-the-Counter (OTC), or “Interbank” market. This is because the whole of the forex market is electronically run. It is led by a network of banks, running continuously over a 24-hour period.
Because the foreign exchange market is OTC, it is a spot forex market. This means that the forex market is spread all over the globe. There is no central location. You can trade anywhere in the world.
The forex OTC market is the most popular and vast of all the world’s financial markets. It is traded globally by the largest number of individuals and companies.
Participants in the foreign exchange OTC market choose with whom they want to trade. Their decision is dependent on the trading conditions, the attractiveness of prices, and reputation of the trading counterpart.
The graph below shows the seven most widely traded global currencies.
The most traded currency is the dollar. It takes up 84.9% of all the forex transactions. The second on the list is the euro’s share which is ar 39.1%. Following these two is the yen at third place. The yen trades at 19.0%. What is apparent from this table is that the major currencies control the top spots on the list.
*Since there are two currencies involved in each transaction, the value of the percentage shares of individual currencies, which when calculated totals 200% instead of 100%
From this table, it is clear that the USD is the most frequently traded in the foreign exchange market.
The Dollar is the Master of the Forex Market
The reason why the U.S. dollar (USD) is the most mentioned of all the currencies is that the USD is one-half of all the major currency pairs. The major currency pairs make up 75% of all the trades which occur.
The International Monetary Fund (IMF) notes that the U.S. dollar comprises of approximately 62% of the world’s official foreign exchange reserves. The reason for this large percentage is because almost all businesses, central banks, and investors own it, so they pay careful attention to the U.S. dollar.
This is not the only reason; there are some other significant reasons as to why the USD have such a central and leading role in the foreign exchange market:
- The economy of the United States is the world’s BIGGEST economy
- The world’s reserve currency is the United States dollar
- The largest and most liquid financial market in the world is the U.S. market
- The political system of the United States is extremely durable
- The world’s foremost military superpower belongs to the United States
- Many cross-border exchanges are conducted in U.S. dollar. An example is gold which is priced in U.S. dollar. So if Switzerland wants to buy gold from South Africa, the medium which the transaction is conducted in is the U.S. dollar. If Switzerland does not own any dollars, it would have to sell its francs and then buy U.S. dollars.
Speculation in Forex
Most currency trading is based on speculation, even though part of the trading volume of the foreign exchange market is commercial and financial transactions. This means that most of the trading volume comes from the traders who buy and sell. The interactions are based on intraday price movements. Speculation done by the traders is thought to have a volume estimated at 90%. The measure of the foreign exchange market signifies that its liquidity is extremely high. This liquidity is the volume of buying and selling which is happening at any given time.
Therefore it becomes easy for anyone to buy and sell currencies.
This liquidity from the investors is necessary and what determines how quickly the price can change during a particular period. A forex market which is liquid allows for huge volumes of trading to take place with very little effect on the rate, or the action of the action.
The forex market may be relatively liquid, the depth of the market constantly changes, all depending on what the currency pair is and the time of day.
These forex trading lessons will explain to you how the timing of your trades can affect the currency pair which you are trading.
There are a few tricks which can help you when you trade, read on to learn more.
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