It is challenging for many new investors to appreciate the foreign exchange market’s magnitude and complexity. To put a face value on the forex market, the forex market generates a daily trade volume of +$6.6 trillion. Compared to the sum of the world’s stock market ($200 billion/day), the forex market is more than 25 times the size of all the world’s stock markets combined, and as we know, size does matter.
With a greater appreciation for the forex market’s scope and size, today’s publication aims to equip you with essential forex market facts and need-to-know forex trading insights. Appreciation and leveraging of the core insights from today’s takeaways will help you craft an arsenal of actionable trading wisdom, so, without further ado, let’s begin:
- Forex Market Influencers
- Forex Market Currencies
- Forex Market Trading Hours
Formation of the Forex Markets
The forex market has a supply and demand market model. For example, Japanese citizens have a strong demand for the US dollar, and they will exchange their Yen for Dollars. This example holds true for many nations’ currencies worldwide.
During a forex transaction, the value of the US dollar appreciates while the Yen depreciates simultaneously. This behavior happens solely to the USD/JPY currency pair and not to individual currencies. For instance, the US dollar will not appreciate against the Euro during the USD/JPY currency exchange (forex trade).
Every day from Monday to Friday, there are thousands of currency exchanges. These forex transactions are completed by retail investors, banks, hedge funds, private equity investors and other entities. These forex currency exchanges are one of the many factors that create flow in the foreign exchange market.
Other factors that influence the flow of the forex markets include:
- Unemployment Rates - Unemployment rates can reveal the state of a nation’s economy. Should the unemployment rate be higher than forecasted, it shows a weakening economy and depreciates that nation’s currency, which opens up a selling opportunity. When unemployment rates are lower than anticipated, it indicates a strengthening economy and appreciation of that nation’s currency (generating a buying opportunity).
- GDP (Gross Domestic Product) - Traders can gather a quick understanding of a nation’s economic well-being by looking at its GDP. Countries with a higher GDP possess a stronger currency and generally appreciate the underlying currency (the US dollar appreciating versus the Yen). Should a country reflect a weaker GDP, it is unlikely that interest rate hikes will occur, resulting in the US dollar depreciating against the Yen.
- Inflation - A nation’s currency value and inflation are intertwined between supply and demand. A country with lower interest rates tends to possess a weaker currency than other nations’ currencies. In contrast, countries with higher interest rates are generated by a more robust economy and an appreciation of that nation’s currency.
- Interest Rates - Countries with higher interest rates often experience an appreciation in their nation’s currency. Interest rates are entangled with inflation as interest rates can vary to curb inflation or stimulate the economy. Demand for appreciating a nation’s currency rises, stimulating that nation’s economy and raising its value against other national currencies.
- Global Affairs - Political elections, natural disasters and war can significantly impact the foreign exchange market. War can stimulate economies, but post-war, when it is time for reparations, that nation’s currency is devalued by cheaply financed capital with minimum interest rates. Damages to infrastructure from war or natural disasters can cripple a region’s economic output, while political elections can sway consumer confidence and affect consumer spending.
Forex Market Currencies
Forex traders invest in the foreign exchange market, a market whose liquidity is fueled by banks, hedge funds, commercial companies, central banks and retail investors. Forex market participants can exchange, speculate, buy and sell currencies while the market is decentralized, abiding by no overseeing authority.
Compared to other financial markets, the forex market is the largest financial market, whose trading volume averages over $6 trillion per day. For comparison purposes, that is over 25 times larger than all of the world’s stock markets combined daily volume (~$200 billion/day). Given the enormous size of the forex market, the market has high liquidity and minimum spreads, making it highly advantageous to investors.
Now to break down the currency proportion of the foreign exchange market.
The US dollar remains the world’s most traded currency. Of all trades, the US dollar was traded in over 88% of all forex transactions. Next, the Euro edged up, the Yen stagnated, while EME rose by nearly 4% points.
Among the ten most frequently traded currency pairs include:
It is challenging for many new investors to appreciate the foreign exchange market’s magnitude and complexity. To put a face value on the forex market, the forex market generates a daily trade volume of +$6.6 trillion. Compared to the sum of the world’s stock market ($200 billion/day), the forex market is more than 25 times the size of all the world’s stock markets combined, and as we know, size does matter. With a greater appreciation for the forex market’s scope and size, today’s publication aims to equip you with essential forex market facts and need-to-know forex trading insights. Appreciation and leveraging of the core insights from today’s takeaways will help you craft an arsenal of actionable trading wisdom, so, without further ado, let’s begin:
- USD/EUR (24.0%)
- USD/JPY (13.2%)
- USD/GBP (9.6%)
- USD/EME (20.2%)
- USD/AUD (5.4%)
- USD/CAD (4.4%)
- USD/CNY (4.1%)
- USD/CHF (3.5%)
- USD/HKD (3.3%)
- USD/KRW (1.9%)
Note how the US dollar is the other paired currency in the top ten most frequently traded forex currency pairs. Why is the US dollar traded more than other currencies? Going back to the Bretton Woods System (1944 to 1971), the United States was the only major country with an economically strong currency following World War II. While there were proposals to create a global reserve currency known as bancor, tightening economic pressures resulted in the US dollar becoming the world’s reserve currency.
Today, the US dollar continues its role as the world’s primary reserve currency and acts as a safe-haven currency. As seen above, the EUR/USD is the largest forex market volume leader, contributing to over 24% of its volume. Countries from the Eurozone consolidate their national currencies into the Euro to generate the world’s second-largest GDP.
Another major market contender in forex is the USD/JPY. Despite being a small country, Japan has the third-largest GDP worldwide, while the USD/JPY compromises over 13% of the forex markets trade volume. As far as trade, the European Union and the United States are Japan’s largest trade partners.
Forex Market Trading Hours
The foreign exchange market is available between Sunday 5 P.M. EST to Friday 4 P.M. EST. Open five days a week, 24 hours a day, the foreign exchange market supports the myriad of currency trading demands worldwide and possesses a few overlapping market hours between regional trading hours. The four regional time zones include:
London (3 a.m. - 12 p.m. EST)
London’s strategic location has long-established London as a primary trade center. There are thousands of transactions occurring every minute during the London market hours, with over 40% of all forex transactions stemming from London. London’s trading session collides with New York and Tokyo trading hours, resulting in increased liquidity, lower pip spreads and more volatility. Primary traded currency pairs include the EUR/USD, USD/JPY and GBP/USD.
New York (8 a.m. - 5 p.m. EST)
The New York trading session is highly volatile during the overlapping closing hours of the London market session. However, after the London markets close, market liquidity and volatility tend to calm down. Given how the US dollar is traded in nearly nine out of every ten currency trades, any news regarding the US dollar can significantly impact the US dollar. Some popular traded currency pairs include the EUR/USD, USD/CHF, USD/JPY, EUR/JPY and GBP/USD.
Sydney (5 p.m. - 2 a.m. EST)
The Australian dollar (AUD) is a currency in high demand for domestic currency traders, and it accounts for almost 7% of the daily forex turnover. Among the three most frequently traded currency pairs include the AUD/JPY, AUD/USD and USD/AUD. Investors who hedge with commodities invest in the AUD due to its strong correlation to gold.
Tokyo (7 p.m. - 4 a.m. EST)
The Tokyo trading session is the least volatile market session, characterized by low liquidity and minimum volatility (mainly due to the US and Euro markets being closed at those hours). There are straightforward entry and exit rates and ample opportunities for breakout trade opportunities and critical support and resistance levels. Among the most popular traded currency pairs of the Tokyo session include the EUR/USD, EUR/GBP and GBP/USD.
Leveraging the FX Market
The forex market’s scope and complexity create one of the world’s most diverse financial markets whose size dwarfs every other financial market. With a deeper understanding of how the forex markets flow and its primary driving factors, you can understand the WHY behind specific market movements and position yourself for an optimal outcome.
Given the global necessity of currency by central banks, worldwide trade and international businesses, the forex market meets 24-hour market demand. As a result, thousands of domestic and international currency exchanges happen every hour.
While possessing historical and fundamental insight into how the forex markets operate is critical, traders should equally familiarize themselves with forex trading basics, such as fundamental and technical analysis as well as money management to maximize trading potential.
