Foreign exchange or forex trading refers to the trading of a country’s currency to another. For instance, you can swap the Sterling pound for the US dollar.
The transactions at the foreign exchange takes place at the foreign exchange market, also identified as the forex market.
The forex market is the global online network that allows traders to buy and sell currencies. The market has no physical location and operates 24 hours a day due to high currency demand.
How Foreign Exchange Operates
The exchange market is responsible for determining the exchange rate or value of the currencies being traded. Forex trading can involve changing one currency to another at a local bank or buying and selling currency at a foreign exchange market.
Currencies in forex trading come in pairs, such as EUR/USD, USD/CAD, or USD/JPY. The USD stands for the US dollar, CAD stands for the Canadian dollar, JPY stands for Japanese Yen, and EUR stands for Euro.
Each pair also comes with a price, such as 1.1569. If such an amount is related to the pair EUR/USD, it means you will use 1.1569 USD to buy one Euro.
In foreign exchanges, currencies trade in lots. They are micro, mini, and standard lots.
A micro lot includes 1000 worth of a specific currency, a mini lot includes 10,000, and a standard lot includes 100,000. However, this is different from when, for instance, you visit a bank to exchange $350 for your travel.
Trade in the online forex trading happens in set blocks of currency, but you can trade as many blocks as you see fit. For instance, you can trade five micro-lots (5,000) or seven mini lots (7000), or 45 standard lots (450,000), etc. as you like.
Foreign Exchange Rates
Foreign Exchange rate is among the ways through which the economic status of a country is determined. The foreign exchange for a country’s currency provides a measure of its financial stability. For this reason, it should always be monitored and analyzed.
If you are aiming to send or receive money overseas, you should be cautious of the currency exchange rates.
The exchange rate refers to the rate at which a country’s currency can be converted into another. However, the exchange rate fluctuates daily depending on the supply and demand of currencies in different countries. Therefore, it is essential to understand some of the factors that determine exchange rates when sending or receiving money internationally.
Factors the Affect Exchange Rates
The size of inflation in the market is key to determining the exchange rates of a country. When a country has a lower rate of inflation, the value of its currency will appreciate as opposed to a country with higher inflation. Low inflation leads to low costs of goods and services.
Besides, a country with a consistently low inflation rate will experience a rise in the value of its currency as compared to a country with higher inflation.
Term of Trade
The term of trade is defined as the ratio of export to import costs. A country will see a rise in its terms of trade if the price of exports rises at a higher rate than import prices.
This will increase the revenue in the country, leading to increased currency value and demand. As a result, the country will experience a higher currency exchange rate.
The political stability and performance of a country can significantly affect the strength of its currency. Foreign investors are more unlikely to invest in a country with political uncertainty.
On the other hand, countries with political certainty will attract foreign investors. Increased foreign capital makes the value of domestic currency to appreciate.
Changes in a country’s interest rates can have a considerable effect on the value of its currency and how it exchanges with the US dollar. Interest rates, forex rates, and inflation are all intertwined. Higher interest rates attract more lenders and thereby leading to the appreciation of the currency.
This will bring more foreign capital, leading to higher exchange rates.
These are among the many factors that cause fluctuations in the exchange rate. If you are an international traveler or trader, being up-to-date with these and more factors will help understand foreign exchange. 6