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How do you make money trading money?
By Matt Lee
Updated March 8, 2018 — 1:58 PM EST
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Investors can trade almost any currency in the world, and may do so through foreign exchange (forex) if they have enough financial capital to get started. In order to make money in forex you should be aware that you are taking on a speculative risk — you are betting that the value of one currency will increase relative to another.
It's first important to note that currencies are traded, and priced, in pairs. For example, you may have seen a currency quote for a EUR/USD pair of 1.1256. In this example, the base currency is the euro and the U.S. dollar is the quote currency.
In all currency quote cases, the base currency is worth one unit, and the quoted currency is the amount of currency that one unit of the base currency can buy. Based on our previous example, all that means is that one euro can buy 1.1256 U.S. dollars. How an investor makes money in forex is either by appreciation in the value of the quoted currency, or by a decrease in value of the base currency.
[ Like any asset market, the forex market has it's own nuances and best practices. If you're looking to actively trade currency, Investopedia's Forex Trading for Beginners course gives you a start-to-finish guide on how the forex works, ideal trading strategies and real-time examples of trades. ]
Another way to look at currency trading is to think about the position an investor is taking on each currency pair. The base currency can be thought of as a short position because you are "selling" the base currency to purchase the quoted currency. In turn, the quoted currency can be seen as the long position on the currency pair.
In our example above, we see that one euro can purchase $1.1256 and vice versa. To purchase the euros, the investor must first go short on the U.S. dollar in order to go long on the euro. To make money on this investment, the investor will have to sell back the euros when their value appreciates relative to the U.S. dollar.
For instance, let's assume the value of the euro appreciates to $1.1266. On a lot of $100,000 the investor would gain US$100 ($112,660 - $112,560) if they sold the euros at this exchange rate. Conversely, if the EUR/USD exchange rate fell by 10 pips to $1.1246, then the investor would lose $100 ($112,460 - $112,560).
Beginners who want to learn more about active trading in the forex should read "A Primer on the Forex Market," "Forex: Money Management Matters" and "Getting Started in Forex."
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