The foreign exchange market (Forex, FX or currency market) is an over-the-counter (OTC) market for trading currencies. This market determines the exchange rates for each currency. It covers all aspects of buying, selling and exchanging currencies at current or fixed prices.
Lately, you may come across a lot of forex advertisem*nts that claim, “My name is within a few minutes. a short time.” These are nothing but online forex trading platforms that are scamming people all over the world.
Before you fall into such a trap, make sure you know everything about what the forex market is and what you mean by forex trading? How, where and when to invest in forex trading?
Forex is also known as the foreign exchange market and involves currency trading. Just as stocks are traded in the stock market, commodities are traded in the commodity market in the same way currencies are traded in the forex market. Like the currency of India is the rupee, the currency of the United States is the dollar, the currency of the United Kingdom is the pound and the Japanese currency is the yen, just like every other country has its own currency in the world.
Based on the fluctuations in the currency market, can you make money by trading currencies? The answer is yes. In the year 1992, a person named 'George Soros' made a billion dollars trading currencies. This forced the Bank of England to bow to him, just as England had to declare a 'Black Wednesday'.
George Soros quotes: “Markets are in a constant state of uncertainty and change, and money is made by discounting the obvious and betting on the unexpected.” In short, this means that the markets are uncertain and if you think like no one else and take advantage of the opportunities presented to you, you can make money trading currencies like no one has ever done.
Let's first take a look at who all participate in the forex market. The Forex market includes importers, exporters, banks and speculators. Let us understand this in detail. Banks in all countries are expected to maintain a certain level of foreign reserves.
What do you mean by foreign exchange reserves? Let's take a look at this concept. Speaking of India, India does not produce everything it consumes. We are required to import many things from other countries like crude oil etc.
If we analyze the import data, in 2018 we imported about 33% of this crude oil from outside. For example, remember that if we import this crude oil from Saudi Arabia, we can pay for it not in INR, but in USD. Since our currency is INR, our banks have to keep USD. Holding the currency of our own country, along with the currency of other countries, is known as foreign reserves.
If you want to trade USD/INR in India, you can do it on the national exchange. When you trade Futures here, the trading here takes place in lot sizes. The basic lot size here is 1000 units. Consider whether $1 is trading at Rs. 70, how many rupees are needed for $1000? It's a simple calculation 70*1000 = Rs. 70,000.
Does this mean one has to pay Rs? 70,000 to trade futures here? No. In the future market, transactions take place by depositing an initial margin. What is this starting margin? To buy a contract of Rs. 70,000 you don't have to pay the entire Rs. 70,000.
You can pay and trade around 3% to 5% of the initial margin. Here is Rs. 70,000 is the total amount of the contract i.e. 3% of Rs. 70,000 works out to Rs. 2100. So that means you can buy the entire contract for Rs. 70,000 by just depositing Rs. 2100. By depositing only the initial margin, anyone can trade futures with ease.
One thing to note is that if you buy the contract by paying an initial margin of Rs. 2100 and if the rate/price of 1 USD increases by Re. 1. Then batch size i.e. 1000* Subject 1 = Rs. 1,000, you will get a profit of Rs. 1,000 here. But if the price of USD falls by Re. 1, then you face a loss of Rs. 1,000.
It is very important to understand that the future market is a double-edged sword. The chances of making a profit and suffering a loss are both equal.
If your trade goes wrong, after you deposit the initial margin, you can accept the loss and terminate the contract. About accepting losses, Mario Urlic, a famous Wall Street Trader, says: “The hardest decision when you lose is to stop trading.”
However, if you believe that this loss is temporary and you want to hold or maintain your position, you must pay the loss incurred and you can then maintain your position. This is known as the maintenance margin.
So now you have deposited Rs. 1000 and hold your position. Now the price of USD rises again and things go wrong, so you will have to deposit the maintenance margin again to hold your position. In this way, by depositing initial margin and maintenance margin, you can trade on the futures market.
Importers and exporters tend to hedge their positions in the international market by using initial margins and maintenance margins.
Let's understand this hedge with a simple example. Suppose you want to gift your girlfriend a beautiful imported diamond ring, which costs about $100. Currently the price is 1 dollar = Rs. 70, so the ring costs approximately Rs. 70,000 (Rs. 70 *100 = Rs. 70,000). To buy this ring you will need about a month to collect this Rs. 70,000.
After a month you will have collected Rs. 70,000, but till then the rate of 1 USD will go up to Rs. 75, so now the ring will cost you around Rs. 75,000 (€75*100 = €75,000). But now you have only Rs. 70,000 with you, you are missing Rs. 5000.
At the beginning of the month, only you could have hedged your position by buying the USD/INR contract on the exchange, knowing that you only have to pay an initial margin to buy the futures contract.
So remember, you had paid Rs. 2100 initial margin and also kept around Rs. 3000 to 4000 for maintenance margin. By the end of the month, the price of USD rose to Rs. 75 per dollar, which meant you got a profit of Rs. 5000 (€75*100 = €75,000).
This means that at the end of the month you will receive Rs. 70,000 and including this profit of Rs. 5000, you would have had a total of Rs. 75,000 with you and you could easily buy that ring yourself by paying Rs. 75,000.
So you and your friend would both be happy. This was possible because you had already hedged your position by buying the contract on the stock exchange at the beginning of the month.
In this way, it can be a bank, importer or exporter in the foreign exchange market who wants to hedge, or anyone who believes that there is an opportunity to trade in currencies because of the fluctuations that take place there.
Speaking of the stock market and USD/INR, the USD has risen and performed well when the stock market collapsed due to higher valuation. In the year 2008, when the market P/E went to 28 and the market crashed after a valuation increase of about 60%, the USD/INR rose by 28%.
Similarly, in the year 2011, when the market collapsed after a 23% appreciation increase, the USD/INR rose by 22%. Even in the year 2015-2016, when the market collapsed due to a higher appreciation of 31%, USD/INR also managed to gain 30% in it.
Therefore, it means that when the market moves in a bearish direction and the market falls from a higher valuation and you find an opportunity in USD/INR, you can invest there and make profits accordingly.
The Legend of Wall Street, Mr. Warren Buffet has been quoted as saying in this regard: "We don't have to be smarter than the rest; we just have to be more disciplined than the rest."
Why does the USD do well when the stock market collapses? This is because whenever the stock market falls due to higher valuation, the Foreign Institutional Investors (FIIs) have always gone into a selling spree and after selling the shares, the money received is in INR which is of no use to them. convert it to USD, and because they convert it to USD, the demand for USD increases. So, when such a situation arises, one can go to the national exchange and trade USD/INR futures.
In India, RBI and SEBI allow trading of currency futures with authorized brokers on the authorized exchange in the pairs namely USD/INR, EURO/INR, GBP/INR and YEN/INR as well as in various currencies such as GBP/USD, EURO/USD and USD/YEN only on the authorized exchange.
Trading with brokers and foreign brokers other than authorized brokers is a criminal offence. According to the Foreign Management Act, 1999; if we transfer money to a foreign broker for margin financing, it is considered a crime, and if we transfer this amount through a credit card, it is equivalent to another crime.
Most foreign brokers describe themselves as licensed brokers, but this makes no sense because they are approved by self-regulatory bodies and not by real governments. They are also based on remote islands so no one can reach them.
So, if you see the opportunity to trade currency futures, you can do it on the authorized exchanges. It was all about forex trading. Until our next blog…
Good deal, good investment!!!
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