What Is Forex Trading? How the Market Works
The largest financial market in the world, explained from the ground up.
Forex — short for foreign exchange — is the global market where currencies are bought and sold. It is the largest financial market by daily trading volume, running continuously from Sunday evening to Friday evening across every major time zone.
Unlike stock markets, forex has no central exchange. Trading happens directly between participants through a network of banks, brokers, and electronic platforms. This structure is called over-the-counter, or OTC.
Why currencies are traded
Currencies are traded for three broad reasons.
Commerce and investment: businesses that operate across borders buy and sell currencies to pay suppliers, receive payments, and repatriate profits. A European company paying a US supplier converts euros to dollars. This commercial flow drives a significant portion of the market.
Speculation: traders attempt to profit from changes in exchange rates. If a trader believes the euro will strengthen against the dollar, they buy EUR/USD and sell when the rate rises.
Hedging: companies and funds use the forex market to reduce exposure to currency risk — for example, locking in an exchange rate for a future transaction.
Retail traders — individuals trading through online brokers — participate primarily in the speculative segment.
How a currency pair works
Forex is always quoted as a pair: the base currency and the quote currency.
In EUR/USD, the euro is the base and the US dollar is the quote. A price of 1.0850 means one euro buys 1.085 US dollars.
Buying EUR/USD means you expect the euro to strengthen. Selling EUR/USD means you expect it to weaken.
Major pairs involve the US dollar and one of seven major currencies: EUR, GBP, JPY, CHF, CAD, AUD, NZD. They have the highest liquidity and tightest spreads.
Minor pairs (also called cross pairs) exclude the US dollar — for example, EUR/GBP or AUD/JPY.
Exotic pairs combine a major currency with a currency from a smaller economy. They have wider spreads and lower liquidity.
How price moves
Exchange rates shift continuously in response to supply and demand. When more traders want to buy euros than sell them, the euro price rises. When more want to sell, it falls.
The forces that drive this supply and demand include:
- Interest rates: a currency with higher interest rates tends to attract capital, increasing demand
- Economic data: employment figures, inflation reports, and GDP numbers signal how healthy an economy is
- Central bank decisions: changes to interest rate policy or statements about future direction move currencies sharply
- Political events and risk sentiment: uncertainty tends to drive flows toward safe-haven currencies like the Swiss franc and Japanese yen
How retail traders access the market
Retail traders trade through regulated brokers that provide access to interbank prices with a markup. The broker provides a trading platform — usually MetaTrader 4, MetaTrader 5, or cTrader — where traders place buy and sell orders.
Brokers make money on the spread (the difference between the buy and sell price) or on a commission per trade. The underlying exchange rate is the same; what differs is the cost.
What you actually control
When you place a forex trade, you are not buying physical currency. You are entering into a contract for difference (CFD) — an agreement to exchange the difference in price between when you open the trade and when you close it.
Your profit or loss depends on:
- Which direction price moved
- How far it moved (measured in pips)
- How large your position was (measured in lots)
A one-pip move on a standard lot (100,000 units) is worth approximately $10 on most major pairs. Knowing this before entering a trade is essential.
Frequently Asked Questions
Is forex trading legal?
Yes, forex trading is legal in most countries. Traders are subject to the tax rules of their own jurisdiction. Brokers operating in most countries must be regulated by a financial authority — check that your broker is regulated before depositing.
How much money do I need to start forex trading?
Most regulated brokers allow accounts from $50 to $200. However, to practice proper risk management at 1% per trade, a starting balance of $500 to $1,000 is more practical. Smaller balances make meaningful position sizing very difficult.
Is forex trading the same as currency exchange at a bank?
No. The rates at retail currency exchange desks are very different from interbank rates and carry large markups. Online forex trading uses prices much closer to the interbank rate, though spreads and commissions still apply.
Can I trade forex part time?
Yes. Many retail traders trade only the session that suits their schedule — for example, the London open or the New York session. The market's 24-hour nature makes it accessible to traders in most time zones.
What is the difference between forex and crypto trading?
Forex involves government-issued currencies with deep liquidity and established regulation. Cryptocurrencies are digital assets with higher volatility, lower liquidity on most pairs, and less regulatory oversight in many jurisdictions. The trading mechanics are similar; the risk profiles are very different.
Related Articles
- How to Start Forex Trading
- What is a Pip in Forex
- What is Leverage in Forex
- Best Time to Trade Forex
- Forex vs Stocks
Not financial advice. This article is educational. Trading carries substantial risk and you can lose more than your deposit. See our risk disclaimer.
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