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Forex Trading Nature We Should Remember
Trading in forex is actually buying and selling in two kinds of currencies. In fact, in forex trading, quoted currencies are always in pairs, showing that they derive their values from one another.
For instance, if we trade in EUR/USD and the pair is quoted at 1.3500 this means we have to buy a Euro at $1.35. At times it's deciding what currency to borrow to buy another kind of currency. We can borrow in yen if it's quoted low and use this to buy into the USD and sell it higher later. So basically, forex trading is a buy and sell business venture.
It can also be seen as using the gains from the currency we traded to buy the currency we are purchasing. We should also understand in forex trading that every currency is assigned an interest rate decided by the local central bank of the country that owns the currency. It is a must to pay such interest rate when we have traded and used the currency in forex trading. However, we also later enjoy the privilege of profiting from the interest of the currency we purchased.
Here's how it all works. Let's say we decide to trade in New Zealand dollars and the Japanese yen. This is written us NZD/JPY. If the NZD has an 8 percent interest rate and the JPY has 0.5 percent interest rate that will be 800 and 50 basis points respectively. Basis points are used in forex trading to measure or compute interest rates. A basis point means the 1/100th part of 1 percent.
So, in the case of our forex trading above between NZD/JPY - the NYD interest rates having 800 basis points and the JPY 50 basis points - we profit at 8 percent in yearly interest. Then we have to pay the 0.50 percent net return on it, which is 7.5 percent or, in basis points, 750.
Interest rates are dictated by the central bank of the country of a currency but they rise or fall due to several factors. These factors are also important to know to understand the nature of forex trading. Among the factors is the economic standing of the host country. If we traded in NZD/JPY we should always be updated on the economic activities and performance of each country.
Hence, forex trading is basically a buying and selling business activity done in a global scale. It always involves a pair of currencies whose economies we should always watch.
