Trading currencies is, in some ways, very similar to trading stocks. But instead of evaluating the merits of an individual company, you’re judging a country as a whole. Thus when you buy foreign currency on the exchange, you’re betting that its value will go up relative to your own so that you can buy back your money and make a profit.
Understanding forex trading is a little tricky. An example will help.
Let’s say that you’ve got $20,000 burning a hole in your pocket, and you’re looking for a way to make a little money out of it.
Suppose you decide that you think that the value of the euro is going to go up against the dollar in the future because the European economy is booming. (It could yet happen!) The exchange rate right now is one dollar buys 0.9 euros. So you convert your $20,000 into €18,000 at the going exchange rate.
A year later, however, the exchange rate is 0.8: you can buy 80 euro cents for one dollar. Or alternatives, one euro buys 1.25 dollars. The value of the euro has, therefore, gone up against the dollar. Now when you buy back your dollars, you get $22,500, collecting a healthy $2,500 in profit. Not bad.
But if you’re investing in the forex market, what signs should you look out for that a country’s currency will appreciate relative to your own.
An Understanding of Political Turmoil in Your Home Country
You don’t have to know a single thing about what’s happening in countries overseas to make money on the forex market. All you need to do is keep track of your own country, looking out for signs of a political crisis that could spell a fall in the value of the economy.
Take the Brexit issue in Britain, for example. When the vote came through that people wanted to leave the EU, the pound fell against global currencies dramatically as investors worried about the future of the economy. Nothing had to happen overseas for that fall to happen: all it took was a political crisis and investors believing that there might be a recession.
Knowledge of Low Regulations Overseas
Taxes are bad for growth, but regulations are even worse. Bureaucrats suck the lifeblood out of an economy, forcing it to stagnate under the enormous administrative costs of complying with all the rules imposed from above. It’s a tragedy for humanity.
Some countries, however, recognize that regulations are toxic to human flourishing and happiness, and have taken measures to roll back the state. Once politicians and regulators get out of the way, people thrive, and countries begin to do better. As demand for their currencies grows, their value increases. Thus, you can trade forex profitably by looking for countries that are more friendly to enterprise (or planning on becoming so).
Forecasting Export Trends
Finally, you can look at whether an economy is becoming more export-orientated. If it is, then it is likely that demand for its currency will rise relative to yours.