The foreign exchange market has huge popularity among traders due to high uncertainty and liquidity. The market converts currencies into another to generate income; traders buy and sell the currency in the market at an exchange rate specified by the forex market. A 24-hour market that allows traders to access it any time of the day. Thus, attracting a lot of investors globally in the financial markets.
The market operates directly between the parties via over-the-counter manner or through brokers. Thus, a trader can choose a convenient way to trade in the forex market. Primarily banks, industries, individuals and financial institutions are the main investors of the forex market.
However, being a vast market, it still has some major trade currencies:
How does the forex market work?
The forex market is unlike the stock and commodities markets, where the trade takes place through an exchange. As the market is run mostly through banks, some major forex exchanges operate 24 hours to serve the market. In addition, it is a decentralised market with no fixed place to trade. All the operations of the market are online connecting brokers, banks and investors.
Trade of the forex market could be executed using three types of forex markets:
Spot Market: The market involves the physical exchange of the forex currencies with an exact date and time fixed in advance for the same. It is called the spot date. The trade is not more than two business days and thus takes place more quickly than other forex market trades.
The spot market is the financial instrument that traders exchange in a short period. The market is also called liquid market and cash market due to instant exchange in the trade.
Forward Market: The forward market contracts involve buying and selling currencies already specified by the parties with price and date in advance. The trade is based in the future with a range of future dates and specific prices. The pricing of the contract is based on the interest rates of the two currencies traded.
The market sounds similar to futures contracts; however, it is different due to offer size and maturity date flexibility. It does not bind the parties to a certain date or time.
Futures Market: The market sounds similar to the forward contracts, where the trade parties buy and sell the currencies dated at a future time and date. The contract is binding as the trade is executed on a certain date decided by the parties of the trade. There is a set price and date in the futures market contract.
Moreover, traders of the forex market can also speculate on the currency prices without holding the currency. Such traders predict the currency exchange rates and take advantage of the price fluctuations.
Base and Quote Currencies
Base and quote currencies are the names of the currency pair that are traded together. The currency that has the upper hand is called the base currency, and the currency that is lower and secondary currency is termed the quote currency. Thus, the first currency of the pair is the base and the second currency is the quote.
The currencies are traded together as traders buy and sell currencies in pairs to make investments. The currency pairs are valued based on the base currency worth, that is, how much one unit of the base currency is to the quoted currency.
The currency pairs are coded with three letters for an understanding of the traders and investors. For example, EUR/USD here is the currency pair bought and sold by the traders. USD is the US dollar that is sold to buy Euro currency which is the European currency.
Traders study the value of these currency pairs to invest in the market, which in return could be beneficial or a loss for the traders.
Traders have some major, minor, exotics and regional currency pairs to trade. A trader can choose a currency pair as per their investment, market dynamics and other factors that impact the currency market.
Top Ten Strategies of Forex Market
Forex trading strategies are the plans and guidelines that traders follow in the investments to buy and sell foreign currency. There are several forex trading strategies available for trading foreign currencies. A trader can use technical and fundamental trading analysis.
Trade with a good forex strategy can enhance the skill and knowledge with benefits from the trade. As traders can analyse the market accurately with sound risk management techniques to have a smooth trade experience.
The paragraph discusses ten prime strategies of the forex market and how they work. So, let’s quickly drive into the details of the strategy.
Price Action Trading
Price action trading strategy is a technical analysis that studies the prices of the financial instruments to predict the price actions. Previous or historical prices are studied to get the repetitive changes and movements of the price in certain situations.
The technique could be used alone or with an indicator to have a confident analysis of the market.
However, the prices are also affected by certain fundamental factors which are not that impactful. Still, traders can also study fundamental areas for accurate decisions.
Using the price action strategy, traders can finalise their trade duration and entry and exit points. Traders can use tools to study the price changes:
- Fibonacci retracement
- Candle wicks
It is the most straightforward and easy trading strategy as it follows the trend of the market. The trend is decided on the basis of the current price direction in the market. If the price is heading upwards, it is an increasing trend, and when the price falls, the trend is a downward trend.
To analyse the trend properly, traders should study the strength, trend direction and duration of the trend. These are the indicators of a strong and weak trend based on which traders can forecast. The trend can also indicate traders about reversals in the trend to have a defined entry and exit. Through this, traders can lock their profits and limit the loss.
For analysing the trend, traders can use the following tools:
- Simple moving average
- Exponential moving average
- Average directional index
Range trading strategy is used by traders to identify the range of buying and selling in a period of time. Traders with the use of range analysed the support and resistance level, and traders entered and exited the market based on that.
It is best suited for instruments that have less volatility and no observable trend. The strategy mainly focuses on the technical tools to analyse the forex market.
The range trading strategy can work with both short and long term trade instruments. As they manage the risks of the market due to the occurrence of breakouts.
The range uses the following trading tools:
- Relative strength index
- Commodity channel index
The strategy relates to holding positions in the market for gaining benefits. Mostly, a long term trade position that could range from weeks to years. The approach needs a macro market view to and manages small fluctuations of the market to sustain their position of trade.
Traders take a comprehensive view of the market to analyse the macro and micro factors of the market. Here, investors have to understand the factors that influence the trade for better forecasting.
Position trading is used for studying the trend of the market, using the analytical data to identify the trend. The strategy mainly uses tools such as:
- Moving averages
- Fundamental analysis
- Value of asset traded
- Elliott wave theory
Day trading strategy is designed for investors and traders who are active with their investments and quick. The trade of financial instruments in day trading is of a day and could also be for a few minutes. The market position of the trade opens with the opening of the market and closes with market closure.
Day traders can have a single trade or multiple trades in a day of the trade. The trade is a short term trade that ranges from a day to a few minutes depending on the instrument of trade. The entry and exit points of investment are also limited to the day, with several entries and exit points of the trade. It uses the risk-reward ratio of 1:1.
Tools used in day trading are:
- Technical tools
- Day trading charting software
- Backup internet access
- Timely market data
A significant part of the forex trade is economical, political, social, and many more. These fundamental areas of analysis are necessary for analysing the forex market. The forex market is influenced by global changes, and to know about the events, traders have to be updated on the news. Therefore, news trading is a necessary strategy for studying the forex market.
The economic events impact the currencies of the different countries, which could be short term or long term market movement.
Major areas or tools of news trading include:
- Interest rate
- Economic reports
- Economic calendar
- Consumer surveys
- Consumer confidence index
In forex market trade, scalping is frequently used as it is a short term profit-earning technique of the financial market. A trader using scalping opens and closes multiple times a day to earn small benefits from the trade. For this, traders use algorithms using preferred guidelines to enter and exit the trade.
Scalpers usually trade in forex pairs that have tight spreads in short term trades. The length of the trades of a scalping strategy is short within time frames of a minute to thirty minutes.
Entry and exit in the scalping are identified through indicators to have a good analysis of the market. Traders earn small profits through this with a big picture in view. It could be highly profitable if traded with full knowledge and skill but is slow trade.
Tools used in scalping are:
- MACD indicator
- Moving average
- Relative strength index
A swing trading strategy is used by most traders for analysing the market trend. Therefore, it is referred to as a trend following strategy that optimises the short term price momentums.
It is a technical analysis strategy involving small surges and dips moving against the prevailing trend of the market. The traders may need to examine the market for 15 minutes to an hour or more on charts to have correct analysis.
The strategy requires quick action from the traders to enjoy good returns on the investments. Traders close the market oversight, and mostly the strategy is used by day traders. As the traders have to monitor short changes of the market. Swing trading is a short term trading strategy using various tools such as:
- Technical analysis
- Fundamental analysis
- Momentum indicators
The use of the carry trade strategy is simple as traders have to borrow a currency at a low rate and invest in another high yielding currency. Here, the traders get a positive carry of trade.
It is a primary forex trading strategy; the length of the trade depends on the interest rate fluctuations of the market currencies traded. Thus, the trade may vary from weeks, months to years.
The carry trades work best in the strong market trend, as it usually involves long term trades. A trader using the strategy should first confirm the trend before placing a trade order. The strategy uses tools:
- Technical analysis
Carry trade takes little time in investment and uses a median risk-reward ratio which is beneficial for traders.
Retracement, in general terms, is the pullback or direction change in the financial instrument. The prices reverse in the market for a short period of time before continuing the direction that was dominant earlier.
Technical analysis is used to identify the retracement of the market. In fact, traders have to understand the difference between retracement and reversal of the market.
The two terms are different from each other. In retracement, the trend changes but goes back to the same direction, whereas in reversal, it is a total change, and the trend does not correct. If the change in the instrument is temporary, traders can hold their current market position in the hope of the continuation of the trend.
In contrast, if the market signals reversal, traders may exit their trade position of the market and enter in a new direction as per the fluctuations.
Tools used are:
- Fibonacci retracement
- Technical analysis
Traders of the forex market should use a consistent strategy as it could be beneficial in the long term of the trade. A strategy should be designed keeping in mind all the aspects of the market and the instrument traded. If the strategy and plan are correct, a trader will be confident about the decisions taken and orders executed. Therefore, traders of the forex market should use the best trading strategies to enhance their trade, skills, knowledge and money.
A trader can find trade indicators and analysis tools to use with strategies through brokers such as TradeATFand ETFinance. Traders, therefore, choose correct brokers to trade with, having all the required facilities. Read full in depth TradeATF review and ETFinance review.