What is Forex?
Forex or Foreign exchange market is the market where the currency of one country is exchanged for the currency of another.
It is world’s largest traded market with the turnover of $5.1 trillion. Almost all the currency transactions are channeled through the worldwide inter bank market. Inter bank market is a wholesale market where world’s major or central banks trade with each other.
In other words, Forex market is a worldwide market of an informal network of telephone, telex,satellite,fascimile and computer communication between the foreign exchange market participants. The operators that deals in this market have different motives.
It is a 24 hours, 5 days a week market which deals in currency trading. Unlike other financial markets, there is no centralized market place for forex trading. Here currencies is traded over the counter.
Suppose Tata Motors enters into a contract with a UK firm to import a machine for 5 crore UK pound. It requires to pay the UK firm in pound terms. So, in order to fulfill its payment obligation, Tata Motors will approach a commercial bank who is dealing in foreign exchange market. Now in exchange of Indian rupees, the company will get UK pound.
Take another example. Suppose ITC is exporting goods to a French importer. So the importing company of firm will make payment to ITC in French Franc. Now, ITC will approach bank and convert French Franc to Indian rupees.
Participants in Forex Market
Following is the classification of participants in foreign exchange market –
Traders engage in export and imports of goods to different countries across the world. They operate in this market because exporters receives foreign currencies which they have to convert in their domestic currency. While traders who are importers make payments in foreign currencies which they purchase by exchanging the local currency. In addition to this, they also operate in foreign exchange market to hedge their risk.
They seek to earn risk less profits that is arbitrage by taking advantage of difference in exchange rates among the countries across the world.
MNCs operates in number of countries and their assets and liabilities are designated in foreign currencies. The fluctuations of foreign currencies can cause diminution in home currency value of their assets and liabilities. So they operate in market so that they can hedge their risk against foreign currency fluctuations.
Well, speculators operates in this market merely for profit motive. They trade in foreign exchange market to get benefit from the fluctuations in currencies.