By Taylor Wilman

When most people think about forex trading, their mind goes to the asocial geeky trader that spends his whole day in front of a computer. Their idea of the forex trader includes multiple trading screens with lots of tiny squiggly lines and an unending supply of coffee. The geeky stereotype of the ‘ideal’ forex trader often makes people (especially those who don’t have a background in finance) skeptical about exploring the forex markets.

However, it is important to include a measure of forex trades in your portfolio to hedge against currency headwinds and geopolitical concerns. This article seeks to demystify the stereotype of the ‘ideal’ forex trader by showing the major players in the global forex market.

1. Central Banks

Central banks are the major stakeholders in the forex markets because they are typically responsible for fixing currency rates. Central banks engage in open market operations and they tweak interest rate policies to influence the values of their local currencies in the forex market. Interestingly, central banks can intervene in the forex market by buying or selling huge volumes of currency in order to stabilize or increase the competitiveness of their country’s economy in international trade. Hence, you shouldn’t be surprised that a central bank might sell more of foreign currency in order to create additional supply that would boost the value of its local currency.

2. Banks

Banks are by far the biggest currency traders in the market because the greatest volume of currency moves through the interbank market. On the basic level, banks need to exchange foreign currency in different countries to settle the account balances of depositors who send and receive funds in different countries. Banks always need to settle forex transactions for clients in other countries and they trade currency with each other through electronic trading networks instead of moving cash from one country to the other.

In addition, banks also make speculative forex trades from their trading desks as part of their core business in order to profit from currency fluctuations. Banks also profit from the bid-ask spread on currencies when they facilitate forex transactions for their clients.

3. Hedge funds and investment managers

Hedge fund managers, investment and fund managers are the second biggest forex traders behind banks. These managers make speculative forex trades in order to book quicker turnaround and gains on the fast-paced nature of the Forex markets.  Portfolio managers with international portfolios also engage in forex trades in order to raise funds to buy foreign securities. In addition, investment managers also buy foreign currencies in ‘stable’ economies to hedge their client’s wealth against geopolitical risks that could occur by keeping wealth in a single currency.

4. Corporations

Firms have different types of international exposures and they always need to buy and sell foreign currency in order to facilitate their business transactions. For instance, an American luxury car company might import leather from Italy to be used in cars that it plans to sell in China. The firm will need to convert its USD into Euro to buy leather from Italy. However, when the cars are sold the China, the firm will be paid in Yuan and it would need to convert the Yuan back into USD to pay the workers in its factories.

In addition, corporations with huge international operations also use forex trades to hedge against currency fluctuations. Some firms also use forex futures to lock in favorable exchange rates to guard against forex fluctuations in the future.

5. Individual traders

Individual traders make a low percentage of the global volume for forex trades in relation to the volume of trades from banks and corporations. However, Forex trading is starting to rise in popularity among individual retail traders. In 2016, retail forex trading represented 5.5% of the volume of transactions in the global forex market with more than $282 billion being traded among retail traders each day. Most individual traders place speculative forex trades in order to profit from the changes in the value of currencies.

Article by Taylor Wilman