Individuals who are looking to enter the FX trading market often wonder why they should enter this market and not one of the other financial markets. Before you consider entering this market, you should find out exactly how it operates.
The FX trading market used to be controlled by multinational corporations, large financial institutions and secretive hedge funds, but technology has made it possible for the individual trader to enter the trading arena.
FX Trading vs. Other Financial Markets
Regulation and Centralisation
One of the main differences between the foreign exchange market and other financial markets is that it does not trade on a regulated exchange. There is no central governing body that regulates the market. There are no clearing houses that guarantee trades and no arbitration board to deal with any disputes that may occur. Trades take place between traders on a credit agreement basis. If you sit back and consider it, this market operates on a virtual handshake basis.
Many investors who are accustomed to the structured manner in which the stock market works may find this an extremely flimsy system. However, in practice, the method appears to work quite well. Market participants are forced to compete and co-operate with each and it has proven that this form of self-regulation has kept control in the market. There are some of the larger countries who have introduced regulatory bodies and if you feel a bit threatened by the lack of a central governing body, you should consider doing your trades through the brokerages that are registered with the regulatory body. This will offer you some form of protection and security, although their powers are limited.
Some of the other differences in the foreign exchange market have caused eyebrows to be raised in the commodities markets. An example is if you feel that the EURUSD currency pair is due to fall, you have the facility to short your currency pair as you see fit. Unlike the stock market, there is no uptick rule present in forex. An uptick rule stipulates that each short transaction needs to be placed at a higher price than what it was on your previous trade. This stops a short seller from compounding the downward spiral of the currency when it is already in the process of falling sharply.
In the forex market, you are limited to the size of the trades you can place, as in the futures markets. This implies that if you had $100 million worth of currency to sell, you are allowed to go ahead. Insider trading is not frowned upon. If you received information regarding a potential interest rate increase, you have the opportunity to purchase as much of that particular currency as you wish. If that trade is profitable, you will not risk the chance of being prosecuted for insider trading. It is a known fact that economic data in Europe is leaked several days prior to the announcements being made official. This sort of information could give traders the opportunity to make massive profits in this financial market.
This information may make you think that the forex market is like the Wild West, without structure or rules, but there are advantages to the market. There are rules applicable to trading and the traders respect those rules and this is why the market is operated in an orderly fashion.