Understanding Currency Pairs
For the absolute beginner, understanding Forex trading begins at understanding currency pairs. A currency pair is an asset you trade in spot Forex. One currency is pitted against another and bundled together as an asset.
For instance, Euro is pitted against the U.S dollar in the EUR/USD pair. When the price of Euro goes up, the currency pair gets a higher price. When the U.S dollar goes up in price, the price of the currency pair goes down. Such is the dynamic in any currency pair. Most brokers allow you to trade between 40-70 currency pairs. For beginners, we suggest sticking to EUR/USD alone, considering its trading volume.
24 Hour Market
Spot Forex is a 24-hour market. It starts off Sunday night by UK time and its trade all the way till Friday evening when NYSE finishes off the week. There are less than 2 days of a non-trading window in a week. Nevertheless, you don’t have to be intimidated by the 24-hour market. You can choose to actively trade or place trades during certain hours.
For instance, the volume is high when Asian, UK and US markets open. Those are times you are going to see big movement any of the seven popular currency pairs – EUR/USD, USD/JPY GBP/USD, USD/CHF, AUD/USD, USD/CAD and NZD/USD.
Role of Brokers
Understanding the role of broker gives more clarity of Forex trading. A Forex broker lets you have access to the Forex markets. They manage the margins, leverages and trade executions for you. The brokerage can be either ECN or a market maker.
The former lets you trade directly on the market. The latter lets you place orders in their system, which will eventually reflect in the market too. The former offers exact prices while the latter offers better trade execution rates. Every broker offers unique account plants, trading platforms, varying leverages, and spreads.
Pip and Spread
The prices of the currency pair are usually integers with decimals. Some go till the point of 4th and 5th decimal. A particular decimal price point is termed as pip for every pair. For EUR/USD, 0.0001 is a pip. The rise or fall of value is measured in pips. The 5th decimal (0.00001) is the pip for GBP/USD.
Similarly, the pip for USD/JPY is just 0.01. When trading a currency pair, the broker charges you a few pips as spread. Most brokers don’t offer a standard spread. Spread is subjected to market conditions. The thumb rule is, higher the volume, lower the spread.
Margin and Leverage
In Forex, you can trade an asset of $300k at just $1k. You don’t have to have the whole price of what you are buying. You only have to deposit enough money to cover possible losses. The deposit you supply is called the margin. Then, the broker lets you trade a certain multiple of your margin. The multiple is called leverage. Leverage allows you to punch above your weight. You can make bigger returns relative to the amount invested. Most brokers allow leverage in the range of 200-800X.