What is Forex?

Forex (Foreign Exchange) is the simultaneous exchange of one country's currency for another. Currency speculations are based on the fluctuations of international exchange rates. The Forex market is the world's largest market, with a reported daily turnover of US $3000 billion.

The essential difference of Forex market from all other markets is that it doesn't have some fixed trading place. Forex is a great network of foreign exchange dealers, dispersed over all major financial institutions across the globe. The Forex market is open 24-hours a day and works as a single mechanism, connected by means of telecommunications. Foreign exchange trading is performed by phone or through computer terminals - transactions are being carried out simultaneously in hundreds of banks all over the world. Today electronic brokers account for about 10% of Forex market turnover.

Basics of margin trading

The main point of work on Forex market is settlement of sale-purchase operations of foreign exchange contracts with the aim to get a profit due to change of currency exchange rates in time. Foreign exchange contract trading on Forex market is based on principles of margin trading and are carried put through Market-Makers, which sell and purchase (quote) foreign currencies for prices, reflecting market state for the current moment. Here is the essence of margin trading: market participant (trader, investor) by lodging his margin money resources to a broker's deposit is permitted to manage broker's directed credit (leverage), which is granted on this collateral and is 10-200 times more than the amount committed. However, conditions of work with a broker don't allow suffering losses, which would exceed the committed sum.

During margin trading each operation necessarily has two stages: purchase (sale) of foreign currency at one price, and then necessary sale (purchase) of it at the other price (or at the same price). First action is called opening of a position, and the second closing of a position. During position opening there is no real delivery of foreign currency, and a participant, who opened a position, contributes insurance deposit, which becomes a guarantee of compensation of possible losses. After closing of a position the insurance deposit is returned, and a settlement of profit or losses is made, which are usually equivalent to the amount of insurance deposit. Besides the deposit is often one hundred times less than the sum, which is given to the participant to use for this trading operation.

Foreign currency market operations

Foreign currency operations can be divided into:

Arbitrary operations and hedging operations:

Arbitrary conversion operations (exchange arbitrage) are the opening of speculative foreign currency position upon condition of necessary reverse repurchase at broker's expense with the aim to get a profit after a change of foreign currency rate. As a rule positions are opened in round amounts of basic currency.

Hedging operations are the opening of foreign currency position upon condition of physical delivery with the aim to hedge money from possible losses in future, which could be caused by a change of foreign currency rates or interest rates.

Conversion and deposit-credit:

Conversion operations are transactions of foreign exchange market agents on the exchange of agreed sums in monetary units of one country to currency of the other country at the negotiated price at a fixed date.

Deposit-credit operations are transactions of foreign exchange market agents for attraction and investment of foreign exchange assets for some term at a fixed interest.

Hedging

In activities of any companies, either investment funds, or agricultural producers, there are always financial risks. They can be connected with anything: sale of produced production, risk of devaluation of a capital, which is invested in some assets, purchase of assets. It means that during their activity companies, other juridical, and sometimes physical, persons face a possibility to have losses as a result of their operations, or the profit is not the one they expected to get due to unforeseen change of prices for the asset, with which the operations is carried out. Risk intend both possibility of loss, or possibility of profit, but people in most cases are not willing to risk, and they agree to refuse the large profit in order to reduce risk of losses. So, derivative financial tools were created for that: forwards, futures, options, and operations for reduction of risk with the help of these derivatives were called hedging.

Fundamental and technical analysis

There are two main methods of market situation analysis: fundamental and technical. The first evaluates situation from the political, economic point of view and a point of view of financial-credit politics. The second is based on methods of graphic research and analysis, which are based on mathematical principles.

Within limits of fundamental analysis various messages about exchange-financial events in the world, occurrences of political and economic life in both separate countries and the whole world community, which can influence development of the exchange market; also the analysis is performed in order to find out, what change of foreign currency rates they can cause. Here the information about work of Stock Exchanges and large companies of market-makers type, refinancing rates of central banks, government economic course, possible changes in political life of a country, and also all possible gossips and expectations.

Technical analysis means forecasting of price changes in future on the ground of analysis of price change in the past. It is based on analysis of time-series of prices and their diagrams - charts. Besides price-series technical analysis uses information about trading volume and other statistical information. Methods of technical analysis are often used to analyze prices that change freely, e.g. on foreign exchange markets. A lot of various tools are developed in technical analysis but the all based on one common assumption - by way of analysis of time-series of prices and trading volume it is possible to accentuate repeated patterns and trends in order to determinate the general state of the market.

Risk management

Risk management is a process of identification and evaluation of risk with the following selection of course of actions proceeding from available alternative scenarios of further events. Target function is a reduction of dispersion of company value (but not maximization of company value).

• Identification of risk: What risk is caused by the current action/inaction, the current transaction? It should be remembered that there is no profit without expense (risk).
• Assessment of risk amount and construction of risk profile - dependency of company value from risk amount. What exactly is risk amount, caused by the current transaction? What exactly risk amount can be suffered because of this transaction?
• Specification of available alternative scenarios of further events. No alternative - no action - principle of conscious inaction - except those cases when a company for some reasons cannot avoid risks at all. (Do we have a possibility to avoid risk?)
• Is it worth to risk at all? How this risk is associated with expected benefit? (no less than 3:1) plotting of indifference curve (risk tolerance curve).
• Making a decision about allowability/ inadmissibility of risk amount for currency of company balance. Can we allow ourselves such risk amount? Be afraid of losses, and profits will come by themselves. Determination of operations' volume, however volume is a volatile function.
• General determination of insurance cost and risk avoidance cost as a refusal from future incomes.
• Making a decision (selection of course of actions), performance and control.
• Analysis of earlier performed actions or inactions in historical retrospective.

Trading psychology

One of the main aspects of trader's work is his psychological stability. All trading manuals pay a lot of attention to this issue.

Trading is both an attraction and generation of profit but only in case if you do everything right and gradually. Trading is a business, a great business, but is nothing more than business. Trading must be regarded namely as business.

You don't have to be a genius or to have special numerical abilities in trading. Trading is not a science, art or religion. It is only a discipline, conscious orientation to do the same thing again and again. There is no other business in the world, which would be similar to trading. At the present time this business gives everyone the best possibilities over its history of existence.