Forex trading that we know today was first established in the early 1970s. It was first initiated after the collapse of the Bretton Woods Agreement, an important precursor system.
Today, the Forex market is one of the largest global markets. Traders routinely exchange an average of $6.6 billion per day, putting even the stock market to shame in the process.
If you’re trying to make a name for yourself in this volatile, yet exceedingly lucrative market, you’re gonna need to learn some basics first. Our article will give you the necessary heads-up with the modern forex trading lingo, and explain a few key facts.
What is Forex?
Forex is a huge virtual marketplace that is meant for individuals and corporations to exchange currencies. By taking advantage of the price changes of various currencies, participants can profit or lose.
The result of a trading decision depends on many factors, among which the experience and knowledge of each trader play a key role in predicting the price movement. Currency exchange takes place every day, and the existence of online trading platforms makes global markets accessible to everyone with an Internet connection.
Common Market Terms: Forex Glossary
To better understand the whole concept of online currency exchange, we have to clarify some basic terms used in the Forex world.
Information means everything in today’s age and you have to make sure you equip yourself with enough knowledge before taking part in price speculating. When it comes to buying and selling currencies for profit, please take note of the following terminology.
Base vs Quote Currency
Understanding these terms is fundamental if you’re planning to engage in online trading. Base currency is the first currency of the two listed in a pair. Otherwise called the “main” currency, it is the asset you either decide to buy or sell.
For example, one of the most traded currency pairs today is the EUR/USD pair. EUR represents the main or base currency, so the investor is buying euros and selling U.S. dollars. On the other hand, USD is the quote currency, since it’s listed second.
Major vs Minor Currency Pairs
While some currencies involved bear greater economic importance, some others may be less frequently traded. Based on their trading activity, there’s a difference between:
- Major currency pairs – most traded pairs with the highest liquidity in the market. These pairs involve the most stable currencies from major world economic areas and feature lower spreads. Major pairs include U.S. dollar (EUR/USD, GBP/USD, USD/JPY)
- Minor currency pairs – also known as “cross” pairs do not include the U.S. dollar. Currencies comprising these pairs are taken from smaller and less stable economies. They’re not as often traded as Forex majors, but still offer lucrative opportunities (EUR/GBP, EUR/CHF, NZD/AUD)
What Are Pips
Pip means a “percentage in point” or “price interest point”, and represents the measurement used in the Forex markets to express how the values of two currencies change.
This is the generally accepted, standardized, and widely used method of measuring price movements. Pips play a key role in estimating the losses and gains in currency trading.
The value of a pip is directly affected by the size of the position (number of units of currency currently traded). That’s where lots come into the picture. For most pairs, except the one traded against the JPY, pip is the fourth decimal number. In the case of the USD/JPY pair, you will find pip in the second place after the comma.
What Are Lots
Lot is another standardized unit of measurement in the world of Forex trading, but it is used to describe the size or the volume of a trade. There are several most popular lot sizes and the choice of them depends on the risk a trader is willing to take, their type of strategy and what their Forex broker offers.
Three general types of lots are:
- Standard lot – 100,000 units of the base currency
- Mini lot – 10,000 units of the base currency
- Micro lot – 1,000 units of the base currency
How to Trade Currency Pairs
Assuming you’ve chosen a reputable Forex broker to open an account with and downloaded your trading platform, the first step is to choose a currency pair. As previously noted, EUR/USD is the most commonly traded pair by beginners due to higher stability.
Then, you have to decide if you want to buy (go long) or sell (go short) the current pair, depending on a detailed analysis and expectations towards future market movements. Following that, you can use your platform to place a trade.
After monitoring a trade for a while, you have to make a decision to either keep the position open or close it if you’re satisfied with the profit.
Costs of Trading
Legitimate brokerages have a set of more or less standardized charges that they apply with retail accounts. These can range from various percentage charges with each trade to overnight costs. The various fees are the main way for a brokerage to profit from their client’s investments.
Spread
Spreads are one of the primary ways a broker makes money. Whenever a client opens a position, they must pay for spreads, which constitute the difference between the ask and bid prices of a currency pair.
If these price differences are small, we call the spreads “tight”, likewise the spreads with large price differences are called “loose”.
Commission
Similar to spreads, commissions are charged each time a retailer engages in trading forex. The two are not to be mistaken, however, as commissions may constitute a set percentage value of each trade, or a predefined fixed amount.
Many legit brokerages offer several account types, with costs based on either spreads or commissions. Choosing an account is, thus, a balance between these two types of charges, as each presents advantages and disadvantages to different strategies.
Swap
Generally speaking, swaps come in two different forms, with both being related to keeping an open position overnight:
- Overnight financing – Charged whenever a trader holds an open position overnight, as it constitutes the cost of borrowing one currency to buy another.
- Rollover fee – Charged whenever there’s an interest rate differential between the two currencies in an overnight held position.
Slippage
Slippage occurs in those precious milliseconds between the moment you click a button and the instance the server executes your command. It represents the difference between the market execution price, and the actual market price.
It heavily depends on the network speed and quality, which is why institutional traders have an advantage over home retailers.
Fees
Depending on the company policy, brokers may charge additional fees. They are usually self-explanatory, so here are a few examples:
- Deposit fees
- Withdrawal fees
- Transaction fees
- Account maintenance fees
Tips For Beginners
Every closed trade is a chance to evaluate the efficiency of your trading strategy and learn something more in the process. Both successful and failed trades are equally valuable for improving your trading skills.
Demo accounts are an excellent way to test your strategies without risking actual money. Stop-loss and limit orders are important risk mitigation tools. Never risk more money than you can afford to lose, and begin with small amounts at first. Of course, keeping informed about relevant events in the markets is important as well.
Reading relevant charts, backtesting, and revising your strategy is one of the best ways to excel in the market. The majority of successful retailers will tell you that your first priority is eliminating losses, and the profits will accumulate naturally.