Forex for Beginners: What is FOREX?

FOREX stands for " foreign exchange." It's a business, like any other business, where you buy something cheap and sell it high to earn profit. The only difference is that, in Forex, you don't buy things to sell. You buy - and sell - money.

An easy way to begin understanding Forex is by focusing on these two words: "foreign" and "exchange." "Foreign" in Forex means foreign currency, or money from other countries. "Exchange" in Forex actually means "trade" - like what you do with trading cards. What is being traded? The foreign currencies!

So it's a bit clearer now, right? Forex, or foreign exchange, means that foreign currencies are being exchanged with one another.

Now why would anybody want to do that?

Let's begin by stating a well-known fact: Prices change. The price of milk today may become higher or lower tomorrow. So too with the price of currencies: there are days when the US dollar is cheap, and days when it is expensive.

For example, there are days when, to buy one US dollar, you only need to pay 0.5 euros. Now, let's say you want to buy 1,000 US dollars on such a day. The market price of 1000 US dollars would then be 500 euros.

But you're buying the dollars from somebody who wants to make a profit. So instead of selling you 1000 dollars at 500 euros, he asks you for 550 euros, for 1000 dollars. By doing so, the man who sold you a thousand dollars made a profit of 50 euros.

As for you, you keep the 1000 dollars under your bed.

Then, one day, you hear the news that the price of the dollar has gone up! One dollar now costs 0.6 euros! So what do you do? You go back to the same man who sold you the dollars, and sell them to him for euros!

And how much do you ask for your 1000 dollars, now that they're worth 600 euros? Well, you could ask for 600 euros, and make a profit of 50 euros, from the original 550 euros you paid some time ago to get the 1000 dollars.

Or you could give Mr. Money Seller a taste of his own medicine, and sell him your dollars at a higher price than its market price too, and make yourself extra profit! So instead of selling him your 1000 dollars at its 600-euro market value, you sell them at 650 euros.

Of course, Mr. Seller might decide not to buy. Then, you either lower your price or find somebody else willing to pay the price you are asking for. Be careful, though, not to wait too long to find a buyer because while you're waiting, the price of the dollar might suddenly go down again! Such is the excitement of Foreign Exchange.

Then again, Mr. Seller might decide to buy your 1000 dollars at the 650-euro price you are asking for because he heard news that makes him believe the price of the dollar would go even higher tomorrow, so even if he buys it at 650 euros from you today, he can sell it at 800 euros tomorrow!

That's how Forex works, basically: You buy foreign currencies, then you sell them back at another time, hoping to profit from the deal. What makes Forex complicated is knowing when you can sell the currencies you hold to make as much profit as you can.