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What is currency trading?
Currency trading involves buying or selling foreign exchange. Global foreign exchange market is huge. Average daily trading volumes in global currency market reached a record high of $7.5 trillion in April 2022; this is almost double of India's GDP. Though currency trading is not very popular in India compared to stock trading, there can be lot of profitable trading opportunities for investors in currency trading. In India, RBI has certain restrictions on trading in currencies. However, the central bank allows currency trading with Indian Rupees INR) as one of the currencies. In addition, the RBI also allows trading in certain cross currency pairs involving US Dollars, Euro, Pound Sterling and Japanese Yen.
How does currency trading work?
Currency trading always involves pairs of currency. One currency in the pair is known as base currency and the other currency is known as the quote currency. In any currency trading transaction you simultaneously buy one currency and sell one currency. When you buy a currency pair from a broker, you buy the base currency and sell the quote currency. For example, let us assume EUR-USD cross currency is trading at 1.1. EUR is the base currency and USD is the quote currency. This means you will pay $1.1 to buy € 1. Let us suppose you buy 1 lot (lot size of 1,000) then the cost for you will be $ 1,100. In INR, it will cost you (assuming USD / INR of 80) = Rs 80 X 1,100 = Rs 88,000. When you sell a currency pair, you will sell the base currency and buy the quote currency. If EUR-USD is 1.2, then you will $1.2 for € 1. Since you had earlier bought 1 lot, you will get $ 1,200. If USD / INR is 81 at the time of selling, you will get = Rs 81 X 1,200 = Rs 97,200. So you would have made a profit of Rs 97,200 - 88,000 = Rs 9,200.
Currency trading in India
| Pair | Base currency | Quote currency |
|---|---|---|
| USD / INR | USD | INR |
| EUR / INR | EUR | INR |
| GBP / INR | GBP | INR |
Globally, investors use currency futures to trade in foreign exchange. Currency futures are similar to stock futures. If you expect the stock price to go up, you buy the future and if you expect the stock price to go down, you sell the future. Similarly in the currency trading, if you expect the base currency to appreciate versus the quote currency, then you will buy the currency future - go long. If you expect the base currency to depreciate versus the quote currency, then you will sell the currency future - go short.