How the forex market really works

Before you open a chart, hear about "winning strategies", or watch some trader on YouTube standing next to a sports car, let's stop for a moment and get one simple thing straight: what forex is and how it really works. People who skip this step almost always end up trading the way you play a slot machine: clicking around and hoping. We'll do the opposite. This first lesson is long on purpose: it gives you the mental map on which the rest of the course is built.

What forex is (and what it isn't)

Forex is short for foreign exchange: the currency market, where the world's currencies are traded. Whenever you travel outside the eurozone and swap euros for pounds, you've made a currency exchange. Forex is the same thing on a gigantic scale: banks, companies, governments, investment funds and millions of ordinary people buying and selling currencies every second.

To give you a sense of size: according to the periodic surveys of the Bank for International Settlements (BIS), trillions of dollars of currencies change hands every day. It is by far the largest and most liquid market on the planet, much bigger than the New York or London stock exchanges. "Liquid" means that at any moment someone is ready to buy or sell, and that you can get in and out in seconds without noticeably moving the price (at least on the main pairs).

What forex is not: it's not a quick way to get rich, it's not a casino (though it can become one if you treat it like one) and it's not a market "rigged against you", as some people claim after losing. It's a real market with precise rules, in which those who manage risk well and are patient win, and those who improvise lose. It will take the whole course to explain what that means in practice.

A market with no home: OTC

The London Stock Exchange has a building and opening hours. Forex doesn't. It's an OTC market (over the counter): there is no single place where everyone meets, just a network of banks and intermediaries connected electronically, trading currencies directly with one another.

This has two practical consequences you'll notice right away:

• The price can differ slightly from broker to broker. There is no single official price the way there is for a share: each intermediary shows the price it gets from its liquidity providers. The differences are tiny on the main pairs, but they exist.
• The market is open almost all the time. It follows the sun: when it's evening in Tokyo it's morning in London, and when London closes New York is in full swing. It only rests at the weekend.

Who moves the price

Picture the market as a pyramid. At the bottom there's us, the "retail" traders (private individuals). Going up:

1. Retail traders (us). We're a small fraction of the volume. Our job is not to move the market but to read it and ride it.
2. Companies. A company that sells machinery in the United States receives dollars and has to convert them. They aren't speculating: they're covering a real need.
3. Investment funds and hedge funds. They move large amounts of capital looking for returns. They are often behind the strongest trends.
4. Commercial and investment banks. They are the heart of the so-called interbank market: they intermediate for everyone and trade huge volumes for themselves and their clients.
5. Central banks. The true "queens" of the market. They set interest rates and, in some cases, intervene directly by buying or selling their own currency. One sentence at a press conference can move the price by hundreds of pips within minutes.

Why a currency goes up or down

The price of one currency against another is, in the end, a matter of supply and demand: if many people want to buy dollars, the dollar strengthens. But why would they want to? The main reasons are five:

• Interest rates. The most important factor. If the US central bank raises rates, holding dollars becomes more rewarding: capital flows into the US and the dollar tends to strengthen. If it cuts, the opposite happens.
• Inflation. A currency that quickly loses purchasing power tends to depreciate. But careful: high inflation often pushes the central bank to raise rates, and that can support the currency. You'll see that in forex relationships always work on several levels.
• Economic growth and employment. A strong economy attracts investment; a struggling one pushes it away.
• Trade and capital flows. Exporters receive foreign currency and convert it; investors abroad do the opposite.
• Sentiment and geopolitical risk. In times of fear investors run to so-called "safe-haven" currencies (the dollar, the Swiss franc, the yen). In times of confidence they prefer riskier but higher-yielding currencies (the Australian and New Zealand dollars).

What you're actually buying when you "buy" EUR/USD

Here's something almost nobody explains to beginners. When you open a EUR/USD position with your broker you are not physically buying euros, and they will never arrive in your account as banknotes. In most cases you're trading a CFD (Contract for Difference): an agreement with the broker in which you win or lose the difference between the opening and closing price, multiplied by the size of the position.

Advantages: you can start with little capital thanks to leverage, you can profit both when price rises (long) and when it falls (short), and there's nothing physical to manage. Drawbacks: leverage amplifies losses too, and you're exposed to broker risk (which is why, as we'll see, choosing a regulated one is essential).

• Long position (buy): you bet the base currency will strengthen. Buy EUR/USD at 1.1000 and close at 1.1050: you've made 50 pips.
• Short position (sell): you bet the base currency will weaken. Sell EUR/USD at 1.1000 and close at 1.0950: you've made 50 pips.

Being able to trade "down" as easily as up is one of the big differences from traditional saving.

Trading hours: when it really moves

The market is open from Sunday evening to Friday evening, but it isn't equally alive all the time. The four big sessions are Sydney, Tokyo, London and New York. The moments with the most volume (and therefore more movement and lower spreads) are when London and New York overlap, roughly the early afternoon in Europe. We'll dedicate a whole lesson to sessions, but for now remember that trading at random hours is one of the fastest ways to pay pointless spreads and catch moves that make no sense.

The uncomfortable truth about the numbers

Someone will tell you that in forex "you make thousands a day". Someone else that "95% lose". The reality is that the vast majority of retail traders lose money: European and UK brokers are required by regulation to say so on their pages, and the share of losing accounts is generally around 70-80%.

We're not telling you this to discourage you, but because it's the most important piece of information in the whole course. The vast majority lose for three very specific, entirely avoidable reasons: they risk too much per trade, they trade without a written plan, and they let emotions drive. In the next modules we'll give you the tools not to end up in that majority. But start out knowing it.

In short

• Forex is the currency market: decentralised (OTC), huge, liquid, open 24 hours a day from Monday to Friday.
• A currency's price depends mainly on interest rates, inflation, growth, capital flows and sentiment.
• As a private trader you almost always trade CFDs: you don't own the currencies, you bet on the price difference, up or down.
• Most retail traders lose: not out of bad luck, but from excessive risk, no plan and emotion.
• Your initial goal is not to profit: it is to learn and protect your capital.

Practical exercise

1. Open a EUR/USD chart (on TradingView or your broker's demo platform) and find the hours when price moves most during the day.
2. Open the site's economic calendar and pick a high-impact announcement from this week. After the event, look at the chart and write two lines on what happened to price.
3. Write in your own words, without copying, why a currency can strengthen. If you can explain it to a friend, you've understood.