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I'm a guy, like 100 percent dude. But I was born in a girl's body.—Adam Torres, Degrassi
Since  and  are frequently associated or conflated in most societies, including Western ones, babies with penises are declared to be baby boys and babies with vaginas are declared to be baby girls. Sometimes this gets difficult, of course. But "transgender" is an umbrella term that can be used to refer to all people whose genders don't match the ones they were designated. This includes (the most commonly depicted) "MTF" women who are initially declared male, "FTM" men who are initially declared female, "genderqueer" or "nonbinary-gendered" people who are neither men or women (or both, and more), and even people who don't have any gender at all.
Some activists' definitions stretch the definition to include everyone who doesn't conform to gender expectations, whether expectations about anatomy or behavior -- this broader definition would include crossdressers who otherwise still agree with whatever gender labels they got at birth. There's also academic and activist debate over whether some non-Western societies' "third genders" or "third sexes" -- categories which are traditional but also not considered "male" or "female" -- should be counted under "transgender"... but this isn't an Anthropology of Gender course.
Being transgender is frequently associated with a symptom known as gender dysphoria. It manifests differently between individuals, but generally speaking, it involves a sense of dissatisfaction with one's physical sex (hence "dysphoria"), and a wish to have a body of a different sex. Some symptoms that can occur but are, once again, not universal, include the feeling of "being in a wrong body", evaluating one's body by the standards of the other sex (even subconsciously), cross-gender dreams, transformation fantasies, and so on.
Opinions are divided on whether gender dysphoria is inborn or a result of personality development. To the big picture, it is largely irrelevant. It can manifest at different ages, although subconscious manifestations of dysphoria can at times be traced to the time before conscious self-discovery.
Consider the typical involuntary Gender Bender plot (such as in Ranma ½, or with Roy in Order of the Stick): the victim often outright hates or is ashamed by their new body, experiencing discomfort with it and seeking ways to remove the "curse". This is how many cisgender people might react, while many transgender people would consider the "curse" a blessing. In fact, transition (see below) exists exactly because there's no convenient way in real life to quickly change a human's physical sex. If there was one, transition would largely be limited to social adaptation to the new gender role.
Accepting one's own internal gender identity, or even acknowledging its existence, might take a while, going through stages of denial. This period seems to receive the least coverage in mainstream fiction, which is primarily concerned instead with either the start or the end (or near-end) of the path. An interesting phenomenon can take place that's essentially the reverse of gender dysphoria, which one may call "gender euphoria". It seems under-represented in fiction, if represented at all: Man I Feel Like a Woman could be considered The Theme Park Version, but gender euphoria doesn't require any physical changes to actually occur.
Transition, the transgender "journey", is a twofold process, and in fact not universal -- some choose not to undergo it at all. One side of it is socialization: learning and adopting the social patterns of the target gender, which by itself becomes progressively easier in the modern society as the gender roles themselves become blurred -- however, with it come numerous issues of acceptance versus discrimination, as well as legal issues, of both of which a lot has been written in detail.
The other side is physical change -- becoming closer in appearance and... function... to the target sex -- which can be motivated not just by desire of social acceptance, but also by psychological issues of self-esteem, and yes, the "wrong body" feeling. Much is written in details about physical transition as well, involving voice training/alteration, sex-specific steps (e.g. hair or breast removal), the proverbial hormone therapy, and the even more proverbial "op" -- that is, genital surgery.
Two myths need to be debunked there. First, hormones aren't Applied Phlebotinum -- they can only do so much. While they do cause things like breast growth and thinning of body hair for trans women, or on the contrary, growth of body hair for trans men, as well as some voice changes and redistribution of body fat -- they don't magically alter the skeleton to adjust body shape, nor do they remove facial hair, which has to be done separately. Some skeletal adjustments do happen - the skeleton is a living part of the body, after all, and there is increasing evidence that it continues to develop and change through adult life, but more slowly and on a much more subtle level - but they take years and may never have more than a slight visual effect.
Finally: while the operation may be required for a legal identity change (depending on the geographical area), it's otherwise optional, and when the person does choose to undergo it, it always comes last, after a period of living under the new identity. Also, keep in mind that there is no one specific procedure. Terms like pre-op and post-op typically refer to genital reconstructive surgery (GRS or SRS), but there are a variety of surgical procedures that trans people may pursue- for example, many trans men find that having their breasts removed is a more important step than getting work done below the belt. Easy Sex Change only exists in TV Land.
Transsexual vs. Transgender
Often these two terms get conflated and confused but with good reason. A common perception is that transsexual people are those who have surgery and transgender people do not. While the former is mostly accurate the latter is not always so. There are people who view the term transsexual as too stigmatizing and argue that it contributes to the conflation between gender and biological sexual organs and avoid it, even if they choose to have surgery.
Sexual orientation can be difficult to describe in a binary, ciscentric framework. Traditional labels, like "heterosexual," "Homosexual" and "Bisexual", are based on the gender binary, and break down when the very framework of gender is in question, although many transgender people use them for themselves nonetheless. Without getting too philosophical, however, they are like everyone in this respect -- they may have a sexual preference for males, females, both or neither (or for wider or narrower sections of the gender spectrum), regardless of the direction of their identity. There are proposed terms for sexual orientation that would help resolve the ambiguities, but they are yet to meet universal recognition.
It is worth noting, however, that for some trans people, their sexual preferences change as they go through transition. Sometimes this is the result of exploring the nature of gender and sexuality; sometimes this is due to resolving discomfort with one's own sexuality; sometimes this is just one of the strange things that hormones will do. And sometimes, none of this happens, and they maintain the same sexual identity no matter what alteration might occur to their body.