Understanding and Benefit of Liquidity in Forex markets

As one gets started in forex trading, one of the first benefits they’re likely to hear is how much liquidity the FX Market offers over other markets. The latest figures are roughly $4 to $5 Trillion in daily volume  . But what does that mean to you and your trading?

It refers to the amount of market interest (the number of active traders and the overall volume of trading in the markets) present in a particular market at any given time. From an individual trader’s perspective, liquidity is usually experienced in terms of the volatility of price movements. A highly liquid market will tend to see prices move very gradually and in smaller increments. A less liquid market will tend to see prices move more abruptly and in larger price increments.

Different Times of Day Offer Different Amounts of Liquidity

If you’re a scalper or short term trader you should be aware of how liquidity in Forex varies through the tradimg days. There are less active hours like the Asian Session and may be little easier to trade from a speculation point of view. The major moving market sessions such as the London session and US session are more prone to breakouts and larger percentile moves on the day.The most liquid time of day are the US Morning Session because it overlaps with the European / London Session which alone accounts for roughly 50 % to 60%+ of total daily global volume. A market that trades 24 hours a day like the forex market is considered more liquid because you can enter or exit a trade at your discretion. A market that only trades for a fraction of the day like the US Equity market or Futures Exchange would be condensed a thinner market because price can jump at the open if overnight news comes out against the crowd’s expectations.

From a trader’s point of view, an illiquid market will have messy moves or gaps because the level of buying or selling volume at any one moment can vary greatly. A highly liquid market is also known as a deep/smooth market and price action is also smooth. Most traders need and should require a liquid market to have better trades  because it is very hard to manage risk if you’re on the wrong side of a big move in an illiquid market. Forex market liquidity will always vary throughout each trading day as global financial centres open and close in their respective time zones.

Holiday Period and Liquidity

Liquidity is also reduced in holiday periods and some times in end of the week like on Friday after 3pm  to 4pm London time.

In less liquid periods the risks also increase for sudden breakouts and major trend reversals. Aggressive speculators such as hedge funds or big players exploit reduced liquidity to push markets past key technical points, which forces other market participants to res Liquidity is also reduced by market holidays in various countries and seasonal periods of reduced market interest, such as the late summer and around the Easter and Christmas holidays.

Typically, holiday sessions result in reduced volatility as markets succumb to inertia and remain confined to ranges. The risks also increase for sudden breakouts and major trend reversals. Aggressive speculators such as hedge funds exploit reduced liquidity to push markets past key technical points, which forces other market participants to respond too late, hence it’s always better to trade at right time of the liquidity as per the best risk and reward strategy.

As I have always mention that trading requires a lot of hard work: treat trading like a serious business and it will reward you accordingly.

Good Luck in your trading and investing.