Currency Trading Basics
The Forex Market
The most traded currency pairs by Forex traders and investors are:
EUR/USD: Euro against Dollar
GBP/USD: British Pound against Dollar
USD/JPY: Dollar against Japanese Yen
USD/CHF: Dollar against Swiss franc
AUD/USD: Australian Dollar against Dollar
USD/CAD: Dollar against Canadian dollar
When a trader buys, also known as goes long, the Euro, he or she is buying the Euro (EUR) and selling the Dollar (USD). When a trader sells, also known as goes short, the Australian Dollar (AUD), he or she is selling the Australian Dollar (AUD) and buying the Dollar (USD).
How to Read Quotes
When the EUR/USD quote is 1.3545, it means that 1 Euro can buy $1.3545 US dollars.
When the USD/CAD quote is 1.0700, it means that 1 US Dollar can buy 1.0700 Canadian Dollars.
When the USD/JPY quote is 93.55, it means that 1 US Dollar can buy 93.55 Japanese Yens.
Bid/Ask Spread
Currencies pairs are usually quoted with a bid and ask price. Banks and brokers are profiting from the difference between the bid and the ask prices. The bid is the price you are willing to sell to a bank or a broker. The ask is the price you are willing to buy from a bank or a broker.
When the EUR/USD quote is 1.3610 /12
The bid price is 1.3610. This is the price you sell to a bank or a broker.
The ask price is 1.3612. This is the price you buy from a bank or a broker.
A Pip
A pip is the minimum incremental move a currency pair can make.
When EUR/USD moves from 1.3610 to 1.3655, it means that the pair moves 45 pips (13655 - 13610 = 45).
When USD/JPY moves from 90.05 to 93.10, the pair moves 305 pips (9310 - 9005 = 305).
Margin Trading
Currency trading does not require the full deposit of the amount traded. You are only required a percentage of the deposit for the amount you would like to trade. This required amount is known as margin.
When the leverage is 400:1, it means that you require only 1/400 or .25% in balance to open a position. When the leverage is 100:1, the amount needed to open a position is 1/100 or 1 %.
Trading Sizes
A standard lot size in the Forex market is $100,000 USD.
When the leverage is 100:1, the required margin to open a standard lot is $1,000 ($100,000 x 1%).
A mini lot size is $10,000 USD.
When the leverage is 400:1, the required margin to open a mini lot is $25 ($10,000 x .25%).
Margin Call
A margin call occurs when the balance of the trading account falls below the maintenance margin.
For example, a trader has $1000 in the account. The leverage he uses is 100:1. The required margin to maintain a open position is 1/100 or 1%.
He buys a mini lot of USD / CAD. The amount of money needed to maintain this open trade is $100 ($10,000 x 1%). He will receive a margin call when the trade goes against him and the loss exceeds $900. Normally, when the account balance gets close to the minimum required margin, the broker will send out alerts to the trader about the possible margin call. Once the account balance falls below the minimum required margin, the broker can liquidate all trades to stop the account from going into negative balance.
