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Forex Indices

forex indices

Disclaimer: The products or services discussed in this article may not be offered by Taurex and may only be listed here for educational purposes.

 

When done correctly, trading in the global markets can be an excellent way to build wealth. However, it is not without risks.

The BIS (Bank for International Settlements) reported that trading in over-the-counter (OTC) foreign exchange (FX) markets stood at $7.5 trillion per day in April 2022.

Unfortunately, no central administrative hub or formal regulatory body exists for FX trading. As such, this trading option often confuses newbie traders.

Like other financial ventures, understanding the basics of forex (FX) is crucial to prevent blowing your hard-earned capital.

This article focuses on indices, especially those related to the FX market. Read on to learn about FX indices, including what they are and how to trade them.

What Are Indices?

Simply put, indices measure a stock group’s performance. For instance, the FTSE (Financial Times Stock Exchange) 100 measures and represents the performance of the 100 largest companies on the LSE (London Stock Exchange).

What Are Indices Used for?

Trading indices lets traders get exposure to a whole market or sector simultaneously using only one open position.

What Are Indices in Forex?

Forex indices combine individual FX pairs of the same base currency to form a “forex basket”. The indices reflect the underlying prices or values of the currency pairs within a particular index. 

If the individual FX prices in that index increase, the index’s value will increase. Conversely, if the individual FX prices decrease, the value of that index drops.

The base or transaction currency is the first currency shown in a currency pair quotation. It is followed by the quote currency (counter currency), the quotation’s second part.

How Are Stock Market Indices Calculated?

Most stock market indices are computed based on the total value of the companies comprising the index.

This method gives more weight to larger companies, so their performance has a more significant effect on the index’s overall value than smaller companies.

Trade on Forex Indices

Reputable brokers offer a collection of related, hand-picked pairs bundled into a single “basket”.

You can trade on various FX indices depending on the broker’s selection.

What Is FX Indices Trading?

FX indices trading provides a unique way to trade on a range of FX pairs with the same base currency, exposing you to multiple currencies simultaneously. 

The indices can also serve as a benchmark overview of a currency’s international value.

How Do Forex Indices Work?

FX indices combine distinct FX pairs with the same base currency to form an FX “basket”. The indices represent the underlying values of the currency pairs in the index. 

Major currency pairs include currencies that dominate the forex market and generate more than 80% of daily forex trade volume.

Currency pairs under this category include the following:

  • EUR/USD: Euro and U.S. dollar
  • GBP/USD: British pound and U.S. dollar
  • NZD/USD: New Zealand dollar and U.S. dollar
  • USD/CHF: U.S. dollar and Swiss franc
  • USD/JPY: U.S. dollar and Japanese yen
  • USD/CAD: U.S. dollar and Canadian dollar
  • AUD/USD: Australian dollar and U.S. dollar

If the individual FX prices in that index rise, the index’s value will increase. Likewise, if the individual FX prices drop, the index’s value will decrease.

How Forex Indices Are Weighted

Indexes designed to reflect the nuances and dynamics of specific markets or sectors are often market cap weighted, meaning the index components are weighted depending on the total market cap or value of their outstanding shares.

Key Benefits of Trading FX Indices

Here are the three primary benefits of trading FX indices:

  • While beginners may need a bit of study and practice, FX trading suits all kinds of traders.
  • The high liquidity of the FX market means high rewards for savvy traders. It also means the potential for big losses, as well for unprepared or ill-informed traders.
  • Generally, the market is open 24/5, so you can trade anytime during the week.

How to Identify What Moves an Index’s Price

Here are five factors to examine when identifying the causes of index price movements: 

  • Economic reports: Investor perception, central bank press releases, payroll estimates, or other financial news can affect market volatility, causing an index’s value to fluctuate.
  • Company news: Top management changes or merger talks will likely influence share prices, leading to a positive or negative change in an index’s price.
  • Changing the index’s composition: Weighted indices experience price shifts when traders modify positions to account for the new index composition.
  • Company financial performance: Company losses and profits cause share prices to decrease or increase, affecting an index’s price.
  • Commodity prices: Various commodities also affect different indices’ prices.

Why Trade Indices?

For various reasons, traders “buy and sell” indices, most likely to increase wealth. Here are eight reasons to trade an index:

Get Immediate Exposure to an Entire Index

A significant advantage of trading indices is the extensive market exposure traders can access with a single position.

As financial snapshots of a market or industry, indices track the performance of their constituent stocks. 

Suppose a notable event affects the entire market rather than just a few firms or companies. In that case, you can open a position on a primary index like the FTSE 100 or S&P 500 (Standard & Poor’s 500). This move lets you track how the incident will affect many of the most valuable stocks within a sector or economy.

You also take your position at the current market price minus transaction fees.

Traditionally, to gain a similar degree of exposure, you would have to spend the time and money purchasing the underlying shares of the index or invest in an ETF (exchange-traded fund), which may be priced based on the fund’s net asset value.

Simply put, indices trading is a direct and immediate way to profit from the current market movements.

Go Long or Short on an Entire Index

In index trading, you can go long or short. Going “long” involves buying an asset because you anticipate it will gain value. Going “short” means selling an asset because you expect the price to drop.

Trading indices lets you take a position to make money whenever an index’s price moves.

Trade With Leverage

Leveraged products are financial instruments that allow traders to gain more market exposure without raising capital investment. 

Indices can use debts to amplify the potential returns of an index. This option means you only have to pay an initial margin deposit to open a position with a significantly larger market exposure.

When you trade with leverage, remember that your profit or loss depends on the entire position size, not just the margin used to open the position. This scenario means that while leverage magnifies gains, it also amplifies losses.

Before trading, you must ensure you understand how leveraged instruments work and can afford to lose money.

Hedge Your Existing Positions

Investors with various shares might “short” some indices to protect themselves against portfolio losses. 

Suppose the market experiences a downturn, and their shares depreciate. In that case, the short position on the index will gain value — offsetting stock losses. 

However, the “short” index position will reduce profits if the stocks appreciate.

Alternatively, if you hold a short position on multiple individual stocks in an index, you could hedge against price increase risk with a long trade. 

A rising index will offset some losses on short stocks if your index position earns a profit.

Diversify Your Portfolio

Accessing the world’s top financial markets can be an excellent way to diversify your portfolio. For example, while geopolitical events could particularly impact one currency pair in the index, the others will likely be unaffected.

Improve Your Trading Potential

Indices let traders speculate on up and down trending markets. This flexibility allows them to profit whether the market is going through a bullish (rising) or bearish (falling) trend.

Take Advantage of Market Movement

Again, indices let traders trade on volatility triggered by corporate news and global events. This function allows traders to benefit from the index value fluctuations resulting from high-impact triggers.

Broaden Your Trading Opportunities

Forex indices let you access and trade market or sector performance without being subject to risks specific to individual currencies. 

This feature offers a diversified approach to trading, allowing you to take advantage of broader market movements in the FX market.

First-Time Trading Indices?

Ensure you know these things before trading an index:

  • The companies in the index
  • How often the index changes (known as rebalancing)
  • The rules for the addition and removal of companies from the index

How to Trade Thematic Indices

A thematic index measures the performance of companies related to specific structural themes, concepts, and trends. 

Concepts will likely play an increasingly significant role in shaping economies and societies. They may also shape the medium- to long-term investment landscape.

Traders may use thematic indices to do the following:

  • Hedge equity positions
  • Gain exposure to large-cap securities
  • Secure a liquidity source
  • Manage risk and volatility
  • Take a risk-reward position

Choose How to Trade Indices

Identify the best way to trade forex indices with a reputable broker. Such brokers let you buy and short-sell index positions, allowing you to capitalise on positive and negative index movements.

Spread Betting

Here’s how spread betting works:

Say you think the FTSE 100 index is performing well and will likely increase in value. You could open a long position using an index derivative in that case.

Suppose the selling price is 5,889, and the buy price is 5,890. The spread is 1 (subtract 5,889 from 5,890).

If your prediction is accurate, all it takes for you to gain profit is for the index to move one point. You set up a long trade (purchase position) at £10 per point. 

The margin rate is just 1%, so you only have to deposit 1% of the trade’s total value.

1% x (£10 x 5,890) = £589

Risk warning: you must know that spread bets are speculative. High volatility combined with leverage could result in significant losses.

Create an Account and Login

Sign up for a retail investor account on a reliable trading platform to start trading indices. 

If possible, partner with brokers with years of experience in the industry. Look for brokers with the lowest spreads in the industry and a comprehensive set of weekend index markets. 

Get exposure to multiple trading opportunities on diverse 24-hour indices and benefit from the market’s liquidity and the broker’s low spreads.

Decide Whether to Trade Cash Indices, Futures, or Options

When you trade with a registered broker, you can get exposure to an index’s price in three ways: cash indices, index futures, or index options. These exchanges let you trade the performance of an entire index. 

Alternatively, you can enter the market or invest in an index-tracking ETF or your preferred stock exchange shares.

Cash Indices

Cash indices follow the spot price of the index, which reflects the current price of the underlying market. Traders with short-term objectives favour them for their competitive spreads (relative to index futures).

Many traders close cash indices positions at the end of a trading day and open new ones the next morning to save on overnight funding fees.

Index Futures

Trading index futures involves agreeing to trade the index at a given price on a specific date. 

Index futures appeal to longer-term traders because the overnight funding charge comes with the spread, enabling them to hold positions for a long time without additional cost. 

Index Options

Index options give investors the right to purchase or sell the underlying stock index over a specified period.

Due to its complexity, index options trading usually only suits experienced traders.

Even then, traders must remember there’s a substantial risk when selling options. For instance, selling a call incurs a potentially unlimited risk since market prices can rise indefinitely.

A call option is a contract between a seller and a buyer to purchase a particular stock at a particular price up until a defined expiration date.

ETFs and Shares

Aside from currency indices, you can trade index ETFs and individual shares with some brokers.

ETFs group assets into a single fund passively tracking a benchmark index, such as the FTSE 100 (a share index of 100 LSE-listed companies).

Meanwhile, people consider assets as “stocks” and “equities”. Investors buy or sell shares they own depending on long-term market conditions.

Select the Index You Want to Trade

It’s crucial to pick an index best suited to your trading preferences. This decision depends on your risk aversion or tolerance, available capital, and whether you favour short or long-term positions.

 For instance, the Germany 40 (calculated from the Deutscher Aktien Index or DAX price) is generally a volatile index preferred by traders with high-risk appetites specialising in short-term trading. 

In contrast, the U.S. 500 (based on the S&P 500 price) is well known for its steady performance over time, making it a favourite among investors with lower risk tolerance and long-term strategies.

Choose Your Platform

Traders, particularly retail traders, trade using their preferred broker’s platforms. For instance, popular brokers worldwide offer MetaTrader 4 and MetaTrader 5.

Decide Whether to Go Long or Short

Again, going long means you’re forecasting an index’s value increasing. In contrast, going short means predicting an index’s value decreasing.

If the economic situation in a country or sector appears well based on the companies’ performances in an index, a long position may yield a profit if the index appreciates. To go long, choose “buy” when initiating a trade.

If the economic outlook is bleak — often because large companies on a capitalisation-weighted index underperform, you could go short on the expectation of a decline in the index value. To go short, choose “sell” when opening your trade.

Note that every trade incurs risk, and past results do not guarantee future outcomes.

Set Your Stops and Limits

Once you have opened a brokerage account and established a budget, you can use your broker’s trading interface to place orders. 

Various order types are generally available, such as stop loss orders, enabling you to control the execution of your trades.

Open and Monitor Your Trade

You can open your position once you are ready to begin indices trading. Log in to the broker’s trading platform and go to the market where you want to enter a trade.

A demo account is one of the best ways to prepare for index trading.

Spread Bets

Say Company Z trades at a selling price of 12,550 ($125.50) and a buying price of 12,560 ($125.60). 

You think Company Z shares will appreciate in the next few days, so you go long and buy Company Z shares for £20 per point of movement at 12,560. 

If Company Z shares increase in value, you might close your trade when the selling price hits 12,590. 

With a gain of 30 points (12,590-12,560), you would earn £600 (30 x £20), excluding additional costs.

In contrast, you would have lost money if the market had dropped in value to a selling price of 12,510. 

You would lose £1,000 (50 x £20) because the market fell 50 points (12,560 – 12,510), excluding additional fees.

The World’s Most Popular Indices 

The U.S. SEC (Securities and Exchange Commission) lists the following as leading market indices:

  • Dow Jones Industrial Average (DJIA)
  • S&P 500 Composite Stock Price Index
  • NYSE Composite Index
  • Nasdaq-100 Index
  • Russell 2000 Index
  • Wilshire 5000 Total Market Index

Examples of Blue-Chip Stocks

Large, reputable, and financially stable corporations issue a blue chip stock. Generally, these companies have been in the industry for many years, have reliable profits, and often pay dividends to investors.

Examples of blue chip stocks in the U.K. include the following:

  • Rio Tinto
  • Anglo American
  • British American Tobacco
  • Vodafone Group
  • Lloyds Banking Group 

Indices Trading Tips

In some ways, trading indices is similar to trading other financial assets. 

Index traders attempt to predict if the index will rise or fall and buy or sell, depending on their predictions. 

Aside from staying updated on market movements, identifying your reasons and goals for index trading are crucial to determining ideal strategies. 

Here are four tips on index trading:

  • Use reliable equities forecasts when analysing current market events. These real-time reports usually rely on experts’ evaluations of top indices like DAX, S&P 500 and the FTSE 100.
  • Determine the risk-reward ratio before trading indices. A positive risk-reward balance (higher potential reward and less risk) is preferable. It’s also advisable to gauge your trading psychology to determine the ideal risk-reward ratio.
  • Always check the latest economic data relevant to your positions. Even minor economic events can significantly affect volatility and spreads, so do not trade before reading high-impact financial data releases.

Some brokers offer economic calendars for clients to see dates and times of crucial data releases.

  • Traders should constantly update their knowledge and skills. Most brokers host webinars covering trading strategies and tips. You can participate in these sessions to improve your index trading approach.

Major Stock Indices Trading Hours

Note: These times represent regular trading hours and are shown in Eastern time.

Here are the trading hours for some of the most prominent global indices:

 

Index Opening Time Closing Time
FTSE 100 3:00 AM 4:00 PM
U.S. 30  9:30 AM 4:00 PM
Japan 225 (Nikkei 225) 6:00 PM and midnight 1:30 PM and 6:30 AM
Australia 5:00 PM  11:00 AM
Hong Kong 50 8:15 PM 1:59 AM
France 40 3:00 AM 11:30 PM
EU stocks 50 2:00 AM 4:00 PM
U.S. 500 9:30 AM 4:00 PM
Germany 30 3:00 AM 11:30 PM
US Tech 9:30 AM 4:00 PM

FAQs

  • Is there a currency index?

Yes. Central bankers and policymakers use this index to compare the value of the country’s domestic currency with foreign currencies.

In the United Kingdom, experts use the currency index to analyse and trade the British pound against other currencies on the forex market. 

A portfolio used as a market systemic indicator usually includes liquid currencies, such as the following:

  • EUR: Euro (European Union)
  • JPY: Japanese Yen
  • AUD: Australian Dollar
  • CHF: Swiss Franc
  • USD: United States Dollar
  • CAD: Canadian Dollar
  • Can you trade on indices?

Yes. Indices provide a highly liquid market to trade. You can enjoy more prolonged exposure to trading opportunities with more trading hours than many other markets.

  • Is it better to trade forex or indices?

The answer to this question depends on which market factors you highlight. 

Many beginners prefer trading indices because these financial representations focus on the underlying value of all components in a particular index. This feature offers traders broader diversification and less risk overall.

Meanwhile, more experienced traders participate in FX trading because the forex market is more liquid than others. 

High market liquidity means large orders of currency trades are filled efficiently with minimal price deviations.

  • How many indices are there in forex?

The FX market comprises an indeterminate number of indices. The number of currency pairs to trade varies depending on what a particular broker offers on its platform.

  • Is forex the same as indices?

While many think these two terms are interchangeable, they are technically different.

Indices trading involves tracking the status of a group of stocks. In contrast, forex trading examines the exchange value of buying a currency and selling another.

  • What is U.S. 30 in forex?

U.S. 30, also known as the Dow Jones index, tracks the value of the 30 largest U.S. registered corporations.

U.S. 30 is one of the most-watched indices worldwide due to the select group of companies it represents.

  • What are the usual trading hours?

The trading period for stocks traded on exchanges and other markets is usually 9:30 AM to 4:00 PM (Eastern Time).

Stock market or trading hours refer to the average working hours of the world’s central markets, like New York, London, and Hong Kong.

Meanwhile, after-hours trading sessions typically happen before or after standard trading hours.

  • Why are indices useful?

Indices help investors, bankers, and legislators in many ways. However, the primary role of indices is to serve as an indicator of the country’s economic performance.

For instance, U.S. economic experts may examine indices like the S&P 500 to assess the country’s economy.

Likewise, U.K. and German investors might follow the FTSE 100 and DAX 30, respectively.

  • What does it mean to go short or long on an index?

As mentioned, traders typically hold “long” security positions, hoping the stock will appreciate. 

In contrast, a “short” position typically refers to the sale of stock traders think will decline in value. 

  • How are corporate actions handled?

A corporate action is an agreed-upon event proposed by the company’s board of directors and approved by its shareholders. 

This initiative often causes substantial changes to the company’s assets. Corporate actions can be voluntary or mandatory.

Reputable brokers can determine whether to adjust their practice when facing corporate actions. They can change the existing value or quantity of any positions to match their economic equivalent or to reflect the changes caused by a corporate action on relevant underlying shares. 

  • What are the costs of trading?

Trading involves explicit and implicit costs. 

Explicit costs associated with trading include broker commissions (if any), stamp duties, transaction taxes, and exchange fees. 

Implicit or indirect costs include the trade’s effect on the received price. These factors affect implicit trading costs:

  • Bid-ask spread
  • Market impact 
  • Delay 
  • Unfilled trades
  • Can I hold my positions long-term?

Yes. You can hold your position indefinitely if you have enough margin in your trading account.

Most investors hold securities for the long term to reap potential future returns.

 

Disclaimer: The information provided in this article is for general informational purposes only and does not constitute financial advice. It is not intended to be a recommendation to buy or sell any financial instrument or engage in any investment activity.

While we strive to provide accurate and up-to-date information, we do not guarantee its completeness or accuracy. We rely on various sources for the information presented, and we cannot guarantee the reliability or accuracy of these sources.

The information provided here does not necessarily reflect the products or services offered by our company. Any mention of financial products or services is for informational purposes only and should not be considered an endorsement.

All investments involve risk, including the potential for loss of principal.

This information should not be considered as financial advice. You should always seek professional financial advice from a qualified advisor before making any investment decisions.

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