Functions of the Retail Forex Market

Retail Forex market became very popular after the development of the on-line trading technologies. Millions of new traders are attracted to Forex each year. They try to earn profits trading the currencies, developing the new intraday strategies and gaining on the long-term trends. But why does the retail FX market exist? Is it only a way to earn money for the brokers and some lucky traders? Here is the list of some functions — obvious and not — that are performed by the retail Forex market:

1. Earning opportunity — this is probably the most popular, obvious and important function of the retail Forex market. It provides the earning opportunity to traders, brokers, affiliates, webmasters, marketing companies and a lot of other on-line industries. Without a promise of profits retail Forex market would be limited to a simple exchange of the physical or current-account money.
2. Extra liquidity — this is definitely a positive function of the retail currency market. Although, not many traders use huge amounts of cash on Forex, the total sum of the money provided by the retail customers adds a good chunk of liquidity to the Forex market.
3. Extra volatility — a not very positive function at a first glance. Retail Forex market makes the rate movement less smooth and more volatile as the traders prefer short-term trading, which leads to the sharp reactions on the daily news and technical signals. Excess volatility is bad for the long-term traders, but it can be good for those who know how to benefit from such markets.
4. Social function — many communities were formed around the Forex trading. Traders prefer to get help from other traders and they also like to share the knowledge that is related to Forex.
5. Technical strategy development — popularity of the Forex trading and especially the on-line and automated versions of this trading led to the creation of thousands of the automated trading strategies. Based on technical analysis some of such strategies can be applied not only in Forex trading but in many other industries.

Of course, this list can't be considered as full and complete, but these functions are the main attributes of the contemporary retail Forex market, in my opinion.

Origin of the Currency Exchange Market

Forex trading has a pretty long history and could be seen in ancient Middle Ages when foreign exchange just started out as international merchant bankers devised bills of exchange, which could be transfered to third-party payments that allowed flexibility and growth in foreign exchange dealings.

The modern FX market is is variable with periods of high volatility and relative stability . By the mid-1930s, London became known as the leading center for foreign exchange and the British pound served as the benchmark currency to trade and was kept as reserve currency.

After the 2nd World War, when the British economy was decimated and the United States was the only country unscathed by war, U.S. dollar ($) became the reserve currency for most of the countries . In turn, the U.S. dollar was pegged to gold at $35 per ounce. Thus, the U.S. dollar became the world's reserve currency.

To execute these goals the IMF uses such instruments as Reserve trenches, which allows a member to draw on its own reserve asset quota at the time of payment, Credit trenches drawings and stand-by arrangements. The letters are the standard form of IMF loans unlike of those as the compensatory financing facility extends financial help to countries with temporary problems generated by reductions in export revenues, the buffer stock financing facility which is geared toward assisting the stocking up on primary commodities in order to ensure price stability in a specific commodity and the extended facility designed to assist members with financial problems in amounts or for periods exceeding the scope of the other facilities.

At the end of the 70-s the free-floating of currencies was officially mandated that became the most important landmark in the history of financial markets in the XX century lead to the formation of Forex in the contemporary understanding. That is the currency may be traded by anybody and its value is a function of the current supply and demand forces in the market, and there are no specific intervention points that have to be observed. Foreign exchange has experienced spectacular growth in volume ever since currencies were allowed to float freely against each other. While the daily turnover in 1977 was U.S. $5 billion, it increased to U.S. $600 billion in 1987, reached the U.S. $1 trillion mark in September 1992, and stabilized at around $1.5 trillion by the year 2000.

Main factors influences on this spectacular growth in volume are mentioned below. A significant role belonged to the increased volatility of currencies rates, growing mutual influence of different economies on bank-rates established by central banks, which affect essentially currencies exchange rates, more intense competition on goods markets and, at the same time, amalgamation of the corporations of different countries, technological revolution in the sphere of the currencies trading. The latter exposed in the development of automated dealing systems and the transition to the currency trading by means of the Internet. In addition to the dealing systems, matching systems simultaneously connect all traders around the world, electronically duplicating the brokers' market.

Advances in technology, computer software, and telecommunications and increased experience have increased the level of traders' sophistication, their ability to both generate profits and properly handle the exchange risks. Therefore, trading sophistication led toward volume increase.