Introduction
Forex Market is a place to exchange common currencies of countries with each other. One of the reasons for the high credibility of the Forex Market is its breadth. The extent of this market made Forex trading be done in different ways.
Different types of trades in the Forex Market
Trading methods in the Forex Market are very diverse, but not all are for retail traders. Retail traders like us who operate in Forex with smaller capital in front of banks and big companies.
There are six types of Forex Trading:
- FX Spot
- FX Futures
- FX Options
- Exchange-traded funds
- FX Swaps
- FX Forwards
The six categories we mentioned cover all types of forex contracts. Most retail traders are involved in Spot Trading. Before explaining the types of trading, it is better to familiarize yourself with the definitions of retail and institutional traders.
Retail Traders
Retail traders buy and sell securities for their personal accounts and have much less capital than financial institutions. All those who intend to become traders fall into this category.
Institutional Traders
Institutional traders with large capitals that belong to large companies and financial institutions do the work of buying and selling currencies for accounts they manage for a group or institution.
1. FX Spot
Spot trading in Forex is defined as an over-the-counter market.
Since this international market is active 24/5, and many large and small companies and individuals operate, it has very high liquidity. The spot Forex market is decentralized, and sellers and buyers can trade directly.
Spot FX has four categories:
- Primary OTC market
- Retail Forex
- Forex CFDs
- Forex Spread Bet
1.1. Primary OTC market
In general, the forex's primary spot market is where insurance companies, pension funds, banks, and other large financial institutions trade to carry out their foreign exchange transactions and reduce the risks associated with exchange rate fluctuations.
This market is also called the interbank market because banks are the leading and most prominent participants in Forex market transactions. These big banks are buying and selling in this market with enormous volumes for currency exchange and to fulfill their customers' orders.
Access to this interbank market or between commercial agents is only available to organizations that intend to trade in this market with significant capital. Retail traders cannot participate in this market because their wealth is minimal compared to big banks.
In the primary spot market, when a company buys the EUR/USD currency pair with a specified volume, it has purchased a contract whereby it must receive a specified volume of Euros for US dollars based on the spot price in the market.
Although the word spot means "at the moment" and the transactions made in this market are carried out at the market's spot price, the contract's delivery date is two working days after the transaction, also called T+2.
1.2. Retail Forex
The Spot Forex Market has a secondary market through which retail traders can trade. Brokers and organizations called Forex trading providers make a connection between retail traders and the large Spot Market.
Organizations providing Forex trading find the best prices available for trading in the Spot Market and offer them to traders on brokers' trading platforms by adding their profit to these prices.
Some brokers are market makers; if we intend to buy, they appear in the role of the seller, and if we want to sell, the providers appear in the buyer's part.
1.3. Forex CFDs
CFD trading is a type of derivative contract where the buyer and seller agree to pay the price difference between the opening and closing of an agreement based on the underlying asset.
These primary assets in the forex market are the currencies, so CFD transactions are contracts whereby buyers and sellers pay each other the price difference between opening and closing the contract based on the difference in currency prices.
In CFD trading, there is a prediction for a price increase or decrease. For example, by buying a CFD contract on the EUR/JPY currency pair, you predict that the price will increase. As a result, by increasing the price when closing the transaction, the seller must pay you the difference between the opening and closing prices.
In the United Kingdom and the European Union, Forex regulators or supervisory organizations have concluded that there should be a distinction between trades traditionally made in the spot forex market and trades automatically renewed in the secondary spot market.
Their most crucial reason for doing this was that traders only wanted to profit from currency price changes and their ups and downs in rolling spot FX contracts. They never have the intention or desire actually to buy currencies physically. For this reason, extended spot trading was considered Forex CFD trading to show the difference between these two types of trade.
1.4. Forex Spread Bet
Spread betting is a type of derivative transaction in Forex in which people do not own the underlying currency. In this transaction, you must predict the direction of the price movement in the desired currency pair. This betting has three essential principles:
The amount of spread: the smaller the spread, the lower the cost of entering and exiting the trade. The direction of the trade: means that the price will increase or decrease.
Betting volume: The amount of betting is the amount of money that enters the bet transaction. Note: This type of transaction is rare in the Forex Market.
2. FX Futures
A Futures transaction is a contract whereby a financial asset is bought and sold at a specified date and price in the future (that's why they are called futures).
Currencies in Forex Market are a type of financial asset that can be bought and sold through future transactions. Currency futures are futures contracts that set a specific price as the exchange rate. It determines the purchase and sale of the desired currency on a particular date in the future. Since these transactions are traded in a centralized exchange based on specific standards, the information related to their price and transactions is also available transparently.
3. FX Options
Options trading is a contract that commits the buyer to buy and sell a financial asset at a specified price and date, called the contract's expiration date. Note that the buyer in this type of contract has the right or option to buy and sell but is not necessarily required to do so. Hence this type of contract is called an option contract. Option trading in forex is divided into two general categories:
Call Option:
The option to buy an asset is called a call option. Investors buy a call option when they expect the price of that financial asset to increase and sell it when they predict the price of the financial asset will decrease. If the price cannot reach the price mentioned in the contract by the expiration date, the call option transaction has expired and will no longer have value.
Put Option:
The option to sell an asset is called a put option. Investors buy a put option when they expect the price of an underlying asset to fall and sell a put option if they anticipate that the price will rise in the future.
A currency option transaction or an option contract in the Forex Market is a contract in which the buyer has the right (but does not have the obligation) to buy or sell a specific currency at a particular exchange rate on or before the expiration date of the contract. Because of this right, the buyer pays the seller an amount. This amount is called the premium, the price of the option contract.
4. Currency ETFs
ETFs in Forex are tradable funds in which one currency or a basket of several different currencies is kept. Those who do not want to trade currency pairs personally can use Currency ETF.
5. FX Forwards
Forward contracts are non-standard contracts between two parties who agree to complete a transaction in the future. That is, two parties agree to buy or sell a particular asset on a specific date and price in the future. As a result, one of these two parties, in the role of a responsible buyer, conducts a long transaction or purchase, and the other party, on the part of a seller, performs a short position. A forward trade in Forex is a contract in which both parties agree to deliver a certain amount of one currency in exchange for another currency on a specific date in the future.
6. FX Swaps
An arrangement to exchange interest payments on a loan issued in one currency for interest payments on a loan made in another currency is known as a foreign currency swap. A swap transaction consists of a cash and forward transaction.
Currency swap transaction in Forex is a contract between two parties of the transaction whereby a specified amount of one currency is exchanged for an equal amount of another currency based on the spot exchange rate. Then, the two parties to the transaction return the principal amounts exchanged to each other at a specified forward rate on the date they set.
Conclusion
The primary and essential centers of Forex exchanges are the cities of Hong Kong, Singapore, London, New York, Frankfurt, Zurich, Paris, Tokyo, and Sydney. All transactions in Forex are done through computer networks between traders worldwide.
Measuring the currencies and calculating the exchange rate is the main task of the Forex Market. Of course, in addition to currency, other assets can be traded in a Forex brokerage, which is not part of the Forex Market. If you fully understand all the transactions in the Forex Market, you can trade better in this market.