Foreign exchange speculation is the buying and selling of foreign currencies with the intention of making a profit from favourable changes in exchange rates.
How it works
Investors who engage in foreign exchange speculation purchase a currency they believe is undervalued in the foreign exchange market relative to a currency they now hold. Speculating investors purchase these undervalued currencies with the intention of selling them once the applicable exchange rate has risen.
Suppose an investor has £6. On a given day, the exchange rate with the U.K. pound sterling is £1.10 for £1, and the investor strongly believes that this rate will soon rise to £1.30 for £1. He sells his £6 for £5.55 at £1.10 for £1. If this exchange rate later reaches £1.30 for £1, the investor will sell these £5.55 for £7.20. By speculating correctly, he made 70p in profit.
With the advent of the World Wide Web, speculative currency trading has proliferated since the early 2000s. The foreign exchange market now comprises hundreds of online brokers. The average consumer can now speculate foreign exchange at home, placing trades at any time with the convenience of Internet access and a credit card.
Provided that exchange rates fluctuate as expected, foreign exchange speculation can be extremely profitable. Investor tools including technical analysis of rate fluctuations and reports from market analysts are informative and aid in making effective trade decisions.
The round-the-clock operation of the foreign exchange market combined with the volatility of exchange rate fluctuations makes speculation a high-risk practice. Despite the availability of written and technical analysis of the foreign exchange market, investors who engage in speculative trading should be prepared for potentially large losses resulting from unfavourable rate movements.