Before you start trading in the Forex market, you must understand what it is and how it works.
Forex is known as Foreign Exchange or FX. Foreign exchange is the simultaneous buying of one currency and selling another.
What is Forex Trading?
Forex market is the most popular venue for retail traders all around the world. Anyone with access to a computer and internet connection can trade in the FX market, which makes it accessible to practically anyone wanting to trade. Also, more than 4 trillion dollars are traded daily in the Forex market, making it the most liquid of all Financial Markets.
Forex vs Stocks
Forex trading works like stocks trading, you buy low and sell high. The benefit of trading Forex is that you don’t need to choose from thousands of different companies or industry sectors.
For example, most people, have an opinion on the US dollar and the US economy. They can easily take their opinions and turn them into a FX trade. Buying or selling US Dollars is as simple as they buying or selling a company’s stock.
Day or night, money doesn’t sleep
Since Forex market is a global arena, trading is available 24 hours a day, 5 days a week. Making it easier to trade at any time, day or night.
The major Forex markets are in Australia, London, Japan, and the USA.
How do I get started with trading Forex?
Firstly, remember that, Forex trading is NOT a get rich quick scheme and trading like any other discipline, is not easy.
One can open a Forex account with as little as $50. And almost all Forex brokers provide Demo accounts so you get used to the platform. Some well known Forex brokers are FXCM, Oanda, Tradestation etc.
Forex Trading Fundamentals
Currencies are traded in pairs. For example, one currency pair would be the USD/JPY
(US dollar/Japanese Yen). When you place an order to trade the USD/JPY you will either be
buying it or selling it. If you buy the USD/JPY it means you want the USD to increase in value in relation
to the JPY. If you sell the USD/JPY it means you want the USD to decrease in value in relation to the
On a USD/JPY chart, if the price moves higher, it means that the USD is increasing in value in relation to
the JPY and the JPY is decreasing in value in relation to the USD. If the price of the pair USD/JPY drops, it means that USD is decreasing in value in relation to the JPY and the JPY is increasing in value in relation to the
USD. This stuff makes more sense on a chart, so lets look at one.
Look at the chart from the perspective of a seesaw. Which ever side the heavier kid is on, that is the side you want to buy, and whichever side the lighter kid is on, that is the side you want to sell. If you want to buy the USD/JPY it means you expect the price to climb higher on the USD/JPY chart. Ifyou want to sell the USD/JPY it means you expect the prices to drop lower on the USD/JPY chart. If you buy the USD/JPY it means you are buying the USD while simultaneously selling the JPY. If you sell the USD/JPY it means you are selling the USD while simultaneously buying the JPY.
Currency pairs pricing and what does it mean?
If the current market price of the USD/JPY is 100.30 it means that 1 USD (US Dollar) is equal to 100.30
JPY (Japanese Yen). If the current market price of the AUD/USD is 0.9239 it means that 1 AUD (Australian Dollar) is equal to 0.9239 USD (United States Dollars).
How many currency pairs can I trade
There are many different currencies that can be traded, but it is usually recommended to trade the ones that are
the most actively traded, the ones with the highest liquidity. The major currencies are:
1) USD (United States Dollar)
2) EUR (Euro Dollar)
3) JPY (Japanese Yen)
4) GBP (British Pound)
5) CHF (Swiss Franc)
6) CAD (Canadian Dollar)
7) AUD (Australian Dollar)
8) NZD (New Zealand Dollar)
There are also many different minor currencies. Each country has its own currency and it’s possible to
trade many other currencies, such as the TRY (South African Rand). Any currency that is not one of the
major currencies is a minor currency.
One currency is always paired with another currency to form a currency pair. For example, USD/JPY, AUD/USD, EUR/CHF, USD/CAD are traded as currency pairs.
What’s a Pip? and how is it calculated?
Pip = Percentage in Point. It is the smallest change in any currency pair. A pip tells us how much a currency has moved. The image below gives us an idea of how a quote looks.
This quote shows two different currency pairs. USD/JPY that have a sell price of 101.92 and buy price of 101.93. And EUR/USD which has a sell price of 1.3644 and Buy price of 1.3646.
So, if you enter a long(buy) position on USD/JPY at 101.93 and it moves to 102.03, you made 10 pips in profit. But, if the price moves to 101.83, then you have a 10 pips loss.
If you enter a Short(sell) position on USD/JPY at 101.92 and it moves to 101.82, you made 10 pips in profit. But, if the price moves to 102.02, then you have a 10 pips loss.
Now lets look at the EUR/USD. Suppose you enter a long(buy) position on EUR/USD at 1.3646 and it moves to 1.3676, you made 30 pips in profit. But, if the price moves to 1.3620, then you have a 26 pips loss.
Once more, you enter a Short(sell) position on EUR/USD at 1.3644 and it moves to 1.3620, you made 24 pips in profit. But, if the price moves to 1.3684, then you have a 40 pips loss.
This is how pips are calculated.
Worth of a pip?
Here is the formula for calculating a pip:
1 pip / exchange rate = value per pip
Currencies have two parts and are known as Base Currency / Quote Currency
I.E. USD/JPY = USD is the Base currency and JPY is the Quote currency.
Here is an example:
USD/JPY = 101.90
0.01 / 101.90 = 0.00009814
1 pip = 0.00009814 USD
This may seem a very small amount of money that one would make per pip, but as you will learn, when multiplied to a lot, this can become a whole lotta moulah!
EUR/USD = 1.3646
0.0001/1.3646 = 0.000073282
1 pip = 0.000073282 EUR
Now, to convert the pip value into dollars; you use the formula:
pip value X exhange = pip value in USD
0.000073282 X 1.3646 = 0.0001
All the pairs with USD as quote currency tend to have $o.ooo1 as the pip value.
Lots is easy to understand. It is the volume of a certain currency that you purchase. For instance, if you want to take a trade for Long(Buy) EUR/USD, you will enter it with lots.
There are a few different lot sizes in Forex. The standard lot size is 100,000 units or $100,000. The mini lots are 10,000 units $10,000. So if you have a mini account, every time you take a trade you are placing $10,000 into the market.Most people can’t afford to trade $10,000 at a time that is why brokers provide leverage, which I will explain later.
Pips, lots, dude I’m confused! How do I make money?
So far we have learned that a pip value is based on a single unit. So if EUR/USD trade moves 1 pip in your direction, you earn 0.0001 USD.
Now, if you are trading a standard lot of EUR/USD, then you have 100,000 units of EUR/USD in the market. So for each pip, you will earn.
pip value x standard lot (100,000) = profit per pip
I.E. 0.0001 x 100,000 = 10 USD profit per pip
That means, if you buy 1 standard lot of EUR/USD at 1.3650 and it moves to 1.3700, you would make 50 pips of profit or $500.
Good thing is, you don’t need to calculate the price per pip, because most brokers provide it when you are entering an order.
The amount is in 1000s, so 100 would mean 100,000 units or 1 standard lot that has a price per pip of $10.
Leverage and Margin
The reason Forex trading can be so profitable is because of the amount of leverage you have. You may
only have $5,000 USD in your account, but by trading 1 lot you can control $100,000 USD. You can
be earning profits on $100,000 instead of $5,000. Leverage is the ratio of the amount of money controlled
in a trade to the amount required for margin. If the margin is 2% your leverage will be 50:1 (you can
control 50 times more money than the amount you have in your account). Of course, leverage is a double edge sword and it can work against you, which happens to be the case most of the time. If you place too large of a trade for the amount of money you have in your account you could be totally wiped out very quickly.
How Margin and leverage work can be seen in the image below.
To trade 1 lot of EUR/USD you would need to have at least $3200 in your account. So lets say you have $3,200 and you buy 1 lot of EUR/USD. Now if the trade goes against you and you don’t properly manage your risk, you can end up losing all the money in your account.
On the contrary, if you have a $5000 account and you buy 1 standard lot of EUR/USD and it moves in your favor 100 pips, you will end up making $1,000 or 20% return. Not too shabby huh?
Bid and Ask Price
The Bid price or the sell is the price at which a trader can sell the base currency for. The Ask
price is the price or buy price is at which a trader can buy the base currency for. The difference between the buy and sell price is called the “spread.”
The spread is the difference between the buy and sell price. For example, if you are trading the GBP/JPY
the buy price may be 127.35 while the sell price may be 127.30. The difference between these two prices
is 5 pips, which means the spread is 5 pips. However, the spread isn’t always 5 pips for the GBP/JPY or any pair
because the spreads are constantly changing. The spread may change from 4 pips to, to 2.5 pips,
to 1 pip, to 3 pips, to 5 pips, etc. This amount of changing can and does happen in a matter of seconds.
The spread is the amount that you pay to enter a trade. Here’s an example of how the spread works:
Let’s say the sell price for the USD/JPY is 159.25 and the buy price is 159.29. You think the market is
going to move higher so you buy the EUR/JPY at 159.29. The very second you buy this currency pair at
159.29 you can sell it (exit the trade) at the sell price, which is currently 159.25. If it were possible to buy
this currency pair at the buy price and then immediately sell it at the sell price you would lose 4 pips on
the trade. If you buy this currency pair at the buy price of 159.29 the sell price will have to move 4 pips
higher (from 159.25 to 159.29) before you could exit (sell it back) with a break-even trade. If the sell price
climbed to 159.30 you would have a 1 pip profit. If the sell price moved to 159.40 you would have an 11
At the end of one trading day and at the beginning of the next trading day there is a process called the
rollover. If you have an open trade one day and do not exit that trade before the end of the day (in other
words your trade remains open from one day to the next day) your account will either be charged or
credited a certain amount of money depending on the interest rate differential between the two currencies.
This was a very basic introduction to Forex trading, primarily Forex terminology. I advise you to open a demo account with an affiliated Forex broker in your region and use this information to get around it.
Good luck and Happy Trading!