There has been a huge surge of interest in forex trading in recent years as the digital revolution has widened access. Once largely the preserve of investment bankers, now anyone can open a forex account. Today, trillions of dollars are exchanged every day on the global forex markets, but how did it all start? Here’s a look at the history of forex trading.
Ancient beginnings
Ever since humans began trading in ancient civilizations, there has been some form of foreign exchange system. In its most basic form, this involved directly bartering for the exchange of goods. However, this soon became impractical as people travelled longer distances to make trades.
When coins were introduced in the 5th or 6th century BC, they began to replace goods as the standard medium of exchange. The expansion of the Roman Empire and the development of transcontinental trade routes such as the Silk Road led to a more formalised currency exchange system.
In Ancient Egypt and Greece, money exchangers would charge a fee for the conversion of currencies—basically, an early form of forex trading. This system was initially based on the weight of coins to determine value, rather than more sophisticated methods such as comparative analysis of economies and government policies.
The first real forex market
The first forex market that resembles today’s system was introduced in Amsterdam in the 1600s, in order to stabilise exchange rates. The city had become a major financial centre as trade between Europe and the rest of the world increased.
More countries introduced national currencies and merchant banks to support the formalised exchange of money, which was made more efficient by the introduction of paper currency. Exchange rates were calculated by the silver and gold reserves of a country, and also the strength of the economy and level of political stability.
The Gold Standard
In 1875, the Gold Standard was widely introduced, which meant that countries could only print the amount of currency equal to the value of their gold reserves. Gold was (and still is) considered a precious metal due to its rarity value, visual appeal, workability and resistance to corrosion.
The gold standard made it more difficult to artificially inflate prices, creating a fairer and more predictable foreign exchange rate and therefore strengthening global trade. England was the first country to peg its currency value to a fixed weight of gold in 1819, as the nation at that time was rich from the profits of its global empire.
The practice spread to other wealthy countries in Europe and also to the United States. However, by the mid 20th century, the gold standard had fallen out of favour. It had disadvantages, as it unfairly hindered the economic growth of nations that did not have their own gold reserves, and it also prevented the increase of money supply during recessions.
Britain was the first country to stop using the gold standard in 1931, followed by the US in 1933. The system was abandoned altogether in 1973.
The Bretton-Woods Agreement
After the World Wars, it became clear that the world needed a new financial system to help rebuild national economies and create greater global stability. This led to the Bretton-Woods Agreement (1944), which involved most currencies being pegged to the US dollar, which in turn was backed by gold reserves.
This system enabled fixed exchange rates, and the International Monetary Fund (IMF) and the World Bank were introduced to oversee global economic stability. The system worked well up until the 1960s, when it began to be undermined by the growing US trade deficit, which in turn decreased the country’s gold reserves.
Eventually, the system collapsed after the US government stopped converting US dollars into gold in 1971, and was completely dismantled in 1973. This opened the door for the free-floating foreign exchange market that is the basis for modern day forex trading.
The transition to modernisation
During the 1970s and 80s, most forex transactions were carried out within large financial institutions and central banks, via phone calls, telex or fax. This was rather cumbersome and prevented real time price determination. Only large institutions had access to the necessary infrastructure and funds for forex trading, so it was a very exclusive operation.
Digitalisation increased throughout the 1980s, speeding up transaction times and reducing costs. However, it was widespread internet access and regulatory changes in the late 1990s and early 2000s that was the real game changer. It enabled banks to build their own trading platforms and stream live quotes, allowing trades to be instantly executed.
This in turn created a more competitive and transparent pricing system, further adding to the popularity of forex trading. It also led to the launch of retail forex trading, which means trading carried out via brokers or prop firms on user-friendly platforms that are designed for individual traders to use.
The 2000s forex explosion
Retail forex trading expanded hugely during the 2000s, as the forex markets were decentralised and operated almost round the clock. Fast and reliable internet access, more sophisticated and affordable digital devices, and a proliferation of online prop firms significantly increased participation.
These were heady early days for individual traders, who had powerful trading tools at their fingertips for the first time in history. However, it was also a turbulent time as the economy was rocked by a series of major events, including the burst of the dot.com bubble, the 9/11 attacks, and the global financial crisis of 2008/9.
The forex markets were also largely unregulated, and it became apparent that regulatory changes were needed to create a more safe and secure environment for traders.
Today, the retail forex sector is overseen by regulatory agencies such as the US Commodity Futures Trading Commission (CFTC), the UK Financial Conduct Authority (FCA), the Australian Securities and Investments Commission (ASIC), and the European Securities and Markets Authority (ESMA).
The rise of prop trading platforms
Today, many individual traders aspire to work with a prop trading firm. Unlike brokers, prop firms use their own capital, so solo traders can operate with very little personal financial risk. Traders will also gain access to a choice of world-leading trading platforms and other digital tools and technologies, and the opportunity for high leverage.
The system works by allowing traders to keep a percentage of their profits, while the firm absorbs any losses. Usually, the prop firm will operate a performance based system with scaling trading plans.
New traders may start with a plan that allows them to keep 50 per cent of the profits they generate, and if they perform consistently, they will be rewarded with higher profit shares, capped at 80 or 90 per cent. There will also be the opportunity to increase account size, often into multi-million dollar sums.
This is a very appealing system for traders who want to top up their income, or even make a complete career shift. The forex markets operate 24/7 throughout the working week, and also throughout much of the weekend, so trading can fit around different time zones, lifestyles and schedules.
The markets are also highly liquid, meaning that buyers and sellers can readily be found for the major currency pairs. This leads to less price slippage and tighter spreads, which is ideal for short term trading strategies. Some prop firms also invest in trader development, such as providing access to online learning resources and trading communities.
How to get started with a prop firm
The best way for a newcomer to begin trading with a prop firm is by completing a 14 day free trial. These offer the chance to get to know a trading platform and test out trading strategies in simulated market conditions. It gives traders a taste of what it’s like to make quick decisions under pressure, without any real financial risk.
If the trader proves during the free trial that they can operate within the firm’s risk management rules and hit profit targets, they will be given the opportunity to progress to the evaluation phase. This is another 14 day program where the trader will take one or two tests to demonstrate their ability and knowledge.
Traders who are successful in passing the evaluation will be offered access to a funded account and a scaling trading plan. To give yourself the best chance of success, it’s important to have a good understanding of how the forex markets work, and the importance of risk management.
Good traders do not just have technical skills: they are also highly disciplined and emotionally controlled and resilient. These qualities can take time to build, and it’s unrealistic to expect that you will be making large profits from day one. However, for those traders who are prepared to put in the work, the potential rewards are well worth it.