Introduction

Currency Pairs

As you have learned, Forex currencies are expressed in pairs consisting of a base currency and the counter currency. In terms of trading, if you think the U.S. dollar will strengthen against the Japanese yen, you would buy USD/JPY. When you buy USD/JPY, you are essentially buying the base currency (USD) and selling the counter currency (JPY). If the U.S. dollar does in fact appreciate in value relative to the yen, then you will receive more yen per dollar and thus make a profit. If you feel the U.S. dollar will weaken versus the yen, you will sell USD/JPY which implies selling the first currency (USD) and buying the second currency (JPY).

Quotes and Spreads

The purpose of Forex trading is to exchange one currency for another in hopes that the currency you bought increases in value relative to the one you sold. Traders betting that the base currency will rise is value are said to have a long position, whereas traders betting that the base currency will fall are said to have a short position.

Forex quotes are expressed using a two-way price mostly commonly referred to as the bid/ask price. The bid is the price traders can sell a currency pair for and the ask price is the price a trader can buy the currency pair for.  The ask price is always on the right  and bid on the left. Bid/ask prices are often quoted as the following: EUR/USD 1.2020/23. The latter number being a short version of 1.2023. The difference between the two prices is called the spread. Spreads are usually expressed in terms of pips (price interest points). A pip is the tiniest unit that a currency is traded in and it typically is represented by the last number on the right side of the Forex rate. For example, if the EUR/USD has a quote of 1.2205, then the smallest unit is .0001 pip. Whereas, for the USD/JPY a quote might look like 116.30. In this case, the smallest unit is .01 pip. Pip values in terms of real money tend to vary, however, the common rule of thumb is that pairs with USD as the counter currency have pips worth $10 each. Therefore for each pip the forex rate moves, you make $10. Pips that have USD as the base currency generally have pip values ranging from $8 to $10.

Lots 

A lot is the standardized trading unit of the Forex market. It is typically $1,000 with up to 100:1 leverage. This leverage means you can control $100,000 of the base currency. Therefore if you buy 1 lot of a currency pair, you put up $1,000 and control $100,000. Mini lots are also available for $50 with up to 200:1 leverage. Forex allows individual traders to have tremendous buying power.

Sample Trade

Say John feels that the euro will appreciate (gain) in value relative to the U.S. dollar. In this case, he wishes to trade EUR/USD and establish a long position or buy the currency pair. The current bid/ask price for EUR/USD at the time is 1.2220/23. Because John wants to go long, he will buy EUR/USD at the asking price of 1.2223. It turns out John is correct in his assessment as the EUR/USD rallies to 1.2255/58. Now John wants to secure his profit and he does this by offsetting his current long position with a short position. So John sells EUR/USD at the bid price of 1.2255. John's profit is calculated by subtracting the price he sold at from the price he bought at. John's profit is 35 pips (1.2255 - 1.2223) per lot. To calculate the full dollar profit, take 35 pips times $10 per pip and you get $3,500 per lot.

Write Comment
Please keep the topic of messages relevant to the subject of the article. Personal verbal attacks will be deleted. Please don't use comments to plug your web site.. Such material will be removed
Name:	Guest
Title:
BBCode:
Comment:
	Enter what you see: * tips: hit Reload page before writing a text if you have difficulty reading characters in image

Powered by AkoComment 2.0! and SecurityImage 3.0.4