The exotic currency pairs typically refer to the currency of emerging markets such as peripheral Europe, Latin America, Asia, and the Middle East. Exotics tend to be less liquid and more volatile than their counterparts in more developed countries. For this reason, these currencies are traded in lesser quantities or used purely to facilitate international trade. Examples of exotic currencies are any currencies other than the heavily traded major currencies such as the South African rand, the Indian rupee, the Mexican pesos etc.
Exotic currencies are neither major nor minor, but they are still important in the financial markets. Exotic currency trading is different from trading in major currencies because of the level of interest in them in the market. The relative lack of activity in the exotic currency market means the currencies can have a high cost and carry a high risk. They are not particularly easy to understand nor are they very secure. High risk however, can present a trader with opportunities and trading exotic currencies can be just as profitable as major currencies.
Low liquidity makes it harder to trade forex exotics. Most transactions occur at banks at pre-determined fixed rates for remittance or similar activities. An analysis of historical daily data for any of these exotic currency pairs will indicate good profitable opportunities in terms of visible price variations over short, mid and long periods of time. However, high mark-up fees charged by forex dealers may erode the profit potential. In cases where there is political uncertainty in the currency's country, this leads to high fluctuations, making it difficult even for experienced traders to trade on exotic forex.
Besides the mentioned risks, exotic currencies do demonstrate a highly volatile nature with high value price moves in the short to long term, enabling enormous profit potential. Experienced market makers and dealers are usually the ones to benefit from trading exotic currencies by capitalizing on the wider spreads, at the expense of other counterparts. Forex exotics may make a good investment option for experienced long term investors, international fund managers or investors willing to add some diversification to their investments at global level.
The ability to anticipate sudden changes that inevitably occur with these currencies and to overcome the insecurity of trading exotic currencies which defy the usual logical analysis, mean that you could stand to gain substantially from trading these pairs. As always, knowing the background situation of the currency and using the appropriate trading tools helps to make a decision about whether or not to trade. This is a requirement with any currency pair that you decide to trade, but in the case of exotic currencies, it is absolutely vital.