If you look at the richest investors today, you will find most of them made their fortune from or participated in the Forex market, the market that does not sleep and with an estimated $6.6 trillion daily trading volume.

The foreign exchange market is characterised by high liquidity and massive trading options of currency pairs, leverage options, futures, and more. Liquidity and liquidity providers play significant roles in this market. Let’s discover what these two terms mean.

What Is Liquidity?

Market liquidity describes how available the assets are in the market and how soon you can execute your trading orders. Highly liquid FX markets mean that other traders are also actively participating and willing to sell or buy from you.

Why It Is Important

Liquidity is important for market stability because the more available the assets are, the faster a trade gets executed. Liquidity providers in Forex play an essential role in keeping it stable, providing liquidity, and maintaining the market dynamics.

Additionally, following basic economic concepts, when the market is highly liquid, more assets are available and supply increases, causing the price to decrease, and here, we refer to it as “Spread”. The spread is the difference between the buying and asking price.

Slippage is another factor that is affected by liquidity, which refers to the delay in trade execution, causing the actual position price to differ slightly from the market price or the price the trader intended. Trading in a highly liquid market is usually associated with minimum slippage risk.

How Bad Is Low Liquidity?

On the side of the story, low liquidity means that there are insufficient assets in the market and a lack of market participants.

Therefore, trade execution can be slightly delayed until suitable trading instrument(s) are found or a counter-position trader is found. This may take from seconds to minutes, resulting in slippage time, where a position is opened at a different price than the actual price you wanted.

Also, low liquidity and low supply of assets result in big spreads, and brokers would offer trading at higher costs compared to high-liquidity markets.

What Affects Forex Liquidity?

Forex is a dynamic and sophisticated market, affecting and affected by several factors, most importantly by the following factors.

• Trading Volume: The trading activity in the market affects the supply and demand dynamics, which are also affected by liquidity. When more trades take place, and assets are available, liquidity increases, and brokers offer trading opportunities at lower spreads and trading fees, which increases market efficiency and stability.
• Marketplaces Working Hours: The FX market operates through multiple marketplaces from the US to the UK, Japan, and Australia. When the US market sleeps, another market wakes up, and relevant currencies get more attention than others. In the times when both the UK and US markets are awake, some currencies like USD, EUR, and GBP soar in trading volume.

Final Thoughts

The Forex market is the largest and most dynamic financial market and, most importantly, the most liquid. This high liquidity attracts traders to benefit from the huge offerings and trading options in the market.

Liquidity providers ensure market stability by adding capital and instruments to the market, maintaining its liquidity levels. This enables brokers and institutional traders to engage in the market, utilising low spreads and low slippage with highly available trading instruments.

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• Source: Plato Data Intelligence.