It is vital to understand what part a private investor plays in the global currency exchange market before starting trading forex. Giving an insight into the types of forex participants, as well as their influence on the market, will help you better understand how currency rates change. A slightly simplified scheme of interaction between currency market participants is provided below.
The brokerage firm acts as an intermediary in the foreign exchange market. Brokers play the role of intermediaries between other major Forex players. Commercial banks are the main Forex participants. They are entitled to conduct buy/sell deals without an intermediary and on behalf of their clients. Such deals can be carried out directly with other banks if they have an agreement on the exchange rates, or via brokerage companies. This is a simplified scheme of cooperation: a dealing department of the commercial bank contacts a brokerage company and asks about the deal terms that other banks are offering at the moment. If the deal terms are suitable for the parties, banks close a deal via a brokerage company, which makes a profit on commission (percentage of the executed deal). Thus, brokerage companies act as a place where currency rates are formed. Commercial banks receive information about the level of rates from brokerage companies.
Other major forex participants are national banks of different countries. These participants enter the market not to increase their capital but to assess the stability of the exchange rate of their national currencies or adjust the current monetary policy. To cover up their activities, national banks often close deals not directly, but through one or more commercial banks. National banks of the developed countries can unite in order to achieve the common goal.
All the forex players mentioned above are active participants. They do not only execute deals in the forex market but also offer their own quotes. As a rule, active participants conclude deals using millions of US dollars and do not use margin trading. They are also called market makers. In addition, there are passive market participants who do not set quotes, but only make deals on quotes offered by active participants.
Various investment funds are also passive participants. Such companies invest their funds in securities of governments and corporations of different countries, thus earning money on currency speculations. Quantum Fund of George Soros is one of the most famous investment funds. There are billions of US dollars at investment funds' disposal. Moreover, they can raise billions of dollars in borrowed funds. Therefore, investment funds can resist the intervention of national banks.
Another type of passive market players is foreign trade participants, namely companies that export or import goods. If an import trade is executed in the foreign currency, this currency should be bought before the deal is closed. However, if an export deal is made in the foreign currency, this currency is to be sold after the deal is executed. Such operations are conducted through commercial banks. The next type of passive participants is international corporations. These companies have their representative offices abroad. When funds are moved from representative offices to head offices, currency conversion operations take place. They are also performed through commercial banks.
Step by step, we are getting closer to understanding the role of a private investor in the Forex market. A private investor usually does not have enough capital to make deals in the market (the minimum trade size is 100,000 units of currency). This is why traders use the services of a broker. They can execute buy/sell deals through commercial banks, but it is impossible for an individual investor to make a profit on the exchange rate. The exchange rate of commercial banks changes once a day, and the difference between the sell and buy rate (spread) is very high.
This is the reason why brokerage firms appeared. Thanks to margin trading, a private investor can open and close deals even with a modest capital.
With the development of the Internet, brokerage firms have also become dealing centers and now provide services to everyone. Anyone who has several thousands of US dollars may try their hand at the forex market. Yet, there is no need to rush! Before opening an account in one of the dealing centers, it is better to read some articles or books about the Forex market, as well as practice your trading skills on a demo account for several months. By doing so, you will lose nothing, but gain invaluable trading experience.
