9. What is Market Liquidity in Forex?
There is liquidity in financial markets, that is, the number of buyers and sellers of an asset in a given market. The more people involved in the transaction, the easier for the asset to be bought and sold, which is a sign of abundant liquidity.
For example, because the trading volume of the forex market is the largest in the world, traders can buy and sell forex at almost any time and the price usually does not vary too much. In addition, most transactions are conducted at the market price, and the volatility is generally stable with relatively low risk.
If a market has poor liquidity, due to the shortage of the number of buyers and sellers, there can be a large difference between the bid and ask price. This can lead to long waiting times as each side (Buyer and seller) has a set price in mind.
Matching orders becomes difficult because the buyer and seller are both waiting for market conditions to improve. This is the common phenomenon of the market with low liquidity, that is, the widening of the bid-ask spread.
The most common example is an unpopular stock. Due to the lack of liquidity, it is often impossible to buy or sell it. In order to make a sale, either the buyer has to pay more or the seller has to reduce the price.
The level of market liquidity reflects the activities of trading. If more people participate in the market, the volume of trading will naturally increase, and the price will not rise or drop drastically due to its large “carrying capacity”.
Why is market liquidity in forex so high?
According to the 2019 Statistics from the Bank for International Settlements (BIS), the average daily trading volume in the foreign exchange market was nearly $6.6 trillion.
The forex market is closely related to the development of the global economy and the trade of various countries, including all economic activities such as consumption and investment, related to foreign currency, making the international settlement naturally quite large. Trading volumes in the global forex market are still growing in an era of rapid globalization.
What creates market liquidity in forex markets?
Almost everyone can be a participant in the forex market, include governments, central banks, commercial banks, financial institutions and individual traders. Due to the time difference in financial centers around the world, the forex market also operates 24 hours a day. Under the premise of lower entry threshold and lower transaction cost, the flexible operation by participants has created huge liquidity in the forex market.
Next Article: 10. Trading foreign currencies
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