What Are the Various Functions of the FOREX Market?
With a daily turnover of nearly $2 trillion, the Foreign Exchange System (Forex) is the largest market in the world. Different currency players use the Forex market for different reasons, including international debt offerings, corporate hedging, and speculation.
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History
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The modern Forex market has its roots in the 1944 Bretton Woods Agreement, which ushered in a new system of global debt and currency exchange.
Players
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The major players in the Forex market are central banks, commercial banks, investment banks, international corporations, broker/dealers, and all types of investors, from multi-billion dollar hedge funds to retail traders with smaller accounts.
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Debt Offerings
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Many developed countries use the Forex Market to offer government debt securities to investors from around the world. The plentiful supply of almost every kind of currency allows these investors to easily swap their native currency for the bank notes in which the debt offerings are priced, simplifying and accelerating the process of buying and selling.
Corporate Hedging
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Gigantic multinational firms like Coca-Cola, Pepsi, and McDonald's derive a significant amount of their profits from foreign business operations. Close to 65% of revenues from McDonald's restaurants come from outside the United States. This diversity of income is for the most part welcome, but it can also expose these companies to large risk in the event there is depreciation in the value of the currencies they earn their revenues in. As a result, many of these firms take steps to insure against currency losses by entering into complicated hedging transactions in the Forex Market.
Profit Motive
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Many investors, traders, and speculators participate in the Forex market because they think they can turn a profit. If an investor considers one currency undervalued in proportion to another, he'll purchase it in the expectation that it will appreciate. Forex offers great leverage, allowing some investors to risk more than 100 times the cash value of their accounts. This allows for large profits on successful trades, but can rapidly lead to catastrophic losses if an investor is wrong.
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References
- Photo Credit foreign currency image by timur1970 from Fotolia.com
