Swipe your credit card in another country, when a company pays its outsource provider overseas or a ticket in US$ and pays it with a EUR-based credit, one or more foreign exchange transactions take place. In a few words the Currency market is the virtual space where money are transacted.
In an increasingly global world, where annual goods trade for western countries (not including services) is in the 1,000 Billion range, naturally Forex market becomes is the number one over the counter financial markets.
Is the foreign exchange trade lucrative? This is one question that many of us have been asking ourselves recently. This is just one of the many examples of big hauls in forex. In 1992 the British Pound exchange rate versus other European currencies was fixed by the bank of England. In order to maintain that value, the Bank fixed their interest rate pretty high, similar to the one offered by Germany. However Germanys high interest rates were appropriate for a robust economy in need for a cool down to prevent a spike in inflation. Britain was in the opposite situation, with its economy in the doldrums. A Hungarian immigrant identified this situation, decided that it was unsustainable and sold short 10 billion pounds. This immigrant, the now famous George Soros made $ 1.1B in this short period.
Situations like the one described before are not a black swan effect of the past. The newspapers is filled with stories of currencies overvalued being brought back to fair value; in the more recent crisis in Europe forex players got the value of the Euro down when it was overvalued (from 1.3654 on April 14 2010 to 1.1925 on June 8, 2010, – 12.7%) and back up again when a lot of people were buying (from 1.1925 on June 8, 2010 to 1.3276 on August 6, 2010, + 11.3%). Central bank interference to get to a acceptable value havent stopped either, as the recent actions of the central bank of Japan and the central bank of China illustrate.
Calculating currency movements is not a matter of serendipity. Disciplines and strategies such as technical analysis enable you to assess immediate variations of a currency, while fair value measures, such as the Big Mac Index, assist to identify currencies that are different from its underlying value and that will converge to that price in the long run.
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