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1. What is Forex?
Foreign exchange is the simultaneous buying of one currency and
selling of another. Currencies are traded through a broker or dealer and are executed
in currency pairs. For example: the Euro and the US Dollar (EUR/USD) or the British
Pound and the Japanese Yen (GBP/JPY). The Foreign Exchange Market (Forex) is the
largest financial market in the world, with a daily volume of over $4 trillion.
This is more than three times the total amount of the stocks and futures markets
combined. Unlike other financial markets, the Forex spot market has neither a physical
location nor a central exchange. It operates through an electronic network of banks,
corporations, and individuals trading one currency for another. The lack of a physical
exchange enables the Forex market to operate on a 24-hour basis, spanning from one
time zone to another across the major financial centers. This fact - that there
is no centralized exchange - is important to keep in mind as it permeates all aspects
of the Forex experience.
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2. What is a Spot Market?
A Spot Market is any market that deals in the current price of
a financial instrument. Futures markets, such as the Chicago Mercantile Exchange
(CME), National Stock Exchange (NSE), MCX' SX, BSE offer currency futures contracts
whose delivery dates may span several months into the future. Settlement of Forex
spot transactions usually occurs within two business days.
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3. Who trades in Foreign Exchanges?
There are two main groups that trade in currencies. About 5-10%
of daily volume is from companies and governments that buy or sell products and
services in a foreign country and must subsequently convert profits made in foreign
currencies into their own domestic currency in the course of doing business. This
is primarily hedging activity. The other 90-95% consists of investors trading for
profit, or speculation. Speculators range from large banks trading 10,000,000 million
currency units or more and the home-based operator trading perhaps 10,000 units
or less. Today, importers and exporters, international portfolio managers, multinational
corporations, speculators, day traders, long-term holders, and hedge funds all use
the FOREX market to pay for goods and services, to transact in financial assets,
or to reduce the risk of currency movements by hedging their exposure in other markets.
The speculator trades to make a profit by purchasing one currency and simultaneously
selling another. The hedger trades to protect his or her margin on an international
sale from adverse currency fluctuations. The hedger has an intrinsic interest in
one side of the market or the other. The speculator does not. Top
4. Who can trade in Currency Futures markets in India?
Any resident Indian or company including banks and financial institutions
can participate in the futures market. However, at present, Foreign Institutional
Investors (FIIs) and Non-Resident Indians (NRIs) are not permitted to participate
in currency futures market. Top
5. How are currency prices determined?
Currency prices are affected by a variety of economic and political
conditions, but probably the most important are interest rates, international trade,
inflation, and political stability. Sometimes governments actually participate in
the foreign exchange market to influence the value of their currencies. They do
this either by flooding the market with their domestic currency in an attempt to
lower the price or, conversely, buying in order to raise the price. This is known
as Central Bank Intervention. Any of these factors, as well as large market orders,
can cause high volatility in currency prices. However, the size and volume of the
Forex market make it impossible for any one entity to drive the market for any length
of time. Top
6. What are the major fundamental factors that affect currency movements?
1.Trade Balance – This refers to imports and exports, and is probably
the most important determinant of a currency's value. When imports are greater than
exports, you have a trade deficit. When exports are greater than imports, you have
a surplus. A shift in the trade balance between two countries tends to weaken the
currency of the country with greater deficit
2.Wealth – Wealth is a country's reserves, in the form of gold, cash, natural resources,
and so on. Any factor that affects a country's ability to repay loans, finance imports,
and affect investments affects the market's perception of its currency and the currency's
value.
3.Internal Budget Deficit or Surplus – A country running a current account deficit
has, on balance, a weaker currency than one that runs a budget surplus. This is
tricky, however, in that the direction of the surplus or deficit affects perceptions
and currency valuations too.
4.Interest Rates – Funds travel globally in electronic format responding to changes
in short-term interest rates. If three-month interest rates in Germany are running
1% less than three-month rates in the United States, then all other things being
equal, ‘hot money’ flows out of Euro into the Dollar.
5.Inflation – Inflation in each country and inflationary expectations, affect currency
values.
6.Political factors – Taxes, stability and other factors that affect the international
trade of a country or the perception of ‘soundness’ of the currency affect its valuation.
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