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The Basics of Forex Theory An introduction to the Foreign Exchange, the Major Currencies and Reason

by with No Comment Forex

What is a Currency Pair ?

Currency is always measured against another currency and they are referred to as currency pairs. Currency pairs are generally segregated into groups. These groups are known as Majors, Minors and Exotics. Major currency pairs are generally the most popular traded currency pairs. Almost all currencies are free floated, meaning that they don’t have a set representation of value to another currency and can rise and fall in value independently. Some of currency pairs offered by HotForex available for trading are:

 
 

What is a Pip ?

A pip is a small measurement of change in the underlying currency. Generally, it is the forth (0.0001) decimal place of a currency price, except with the Japanese Yen, where they have no denomination for cents in their currency (in the Japanese Yen, the pip is the second decimal place). Shown below is an image representing an order window reflecting the price of the AUD/USD Currency Pair

The fourth decimal place is circled red to show which decimal the pip is in reference to. If the price 0.84693 moves to 0.84683 then there was a 1 pip movement. Please note that the fifth decimal represents 1/10th of a pip.

 

A pip is a good reference measure to how much a trader can make based on the volume of their trades. For example, if a trader purchases a full contract the value of potential return and risk is $10 profit or loss (of the second named currency in a pair) per pip movement. You can follow the table below as a reference to potential risk or return:

 
 

Quite often, the annotation used to measure how well a trader is doing is to mention how many pips they have gained in a set time period.

What is Bid & Ask and Spread ?

With currency quotes, they are always represented with a Bid offer and an Ask offer. This denotes the price difference between buying and selling.

If you BUY, you are buying at the ASK price. if you SELL, you are selling at the BID price. Shown below is a list of currency pairs all showing a Bid and Ask offers.

Remember, if you opened a BUY position and you wish to close it, you are essentially selling it back, therefore the price you will be closing the position at is the BID price and vice versa.

The spread is the pip difference between the BID and ASK. If you were to look at the above image and referred to the AUD/USD then you will notice the BID as 0.84767 and the ASK as 0.84786.

This is a spread of 1.9 pips. 0.84786 – 0.84767 = 0.00019 0.00019 = 1.9 pips

What is Leverage and How much do I need to trade ?

Leverage is the amount that you are borrowing based on the deposit in your account. Default leverage is set at 100:1, meaning that for every $1 you have in your account, you have a buying power of $100. If you have $1,000 in your account, you have buying power of $100,000. Something to remember is a full contract is $100,000 of the base currency. So if you were looking to trade a Full Lot of the EUR/USD, then you would need the equivalent of EUR$100,000 in your account to trade this. If you wanted to trade a full contact and you had a leverage of 500:1, then you could take this position with only $200 in your account ($200 x 500 = $100,000). High leverage can help you take larger positions based on smaller capital in your account, but it is not without its pit falls. Larger positions result in larger dollar movements per pip and as such can wipe out smaller capital amounts in a short period of time.

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The Basics of Forex Theory An introduction to the Foreign Exchange, the Major Currencies and Reasons

by with No Comment Forex

Foreign Exchange Definition

Foreign exchange (Forex) is the cross-country exchange of currencies and is, single handedly, the largest and most liquid financial market in the world. With an estimated $1.5 trillion in currencies traded in a single day, it eclipses the trading of other types of commodities. Unlike other commodity trading, Forex has no centralized exchange and is traded primarily through banks, brokers, dealers, financial institutions and private individuals. Due to this ability for financial institutions to trade Forex, the Forex market is open 24 hours, 5 days a week (closes Saturday morning).

Prior to the late 1990’s, Forex trading was only the practice for institutional traders and even though retail traders had access to trade the Forex market, only recently has it become popular and more common for individuals to trade Forex for profit. Most of the world’s different country currencies are free floating; meaning they retain an individual value and will appreciate and depreciate against other currencies. Currencies are always listed in pairs as they need another currency to benchmark against.

Reasons for Trading Forex

Trading Forex has many purposes and you’ll be surprised of the many levels traded that impact you and you’re not even be aware of it. For every purchase you make, the contents, ingredients, by-products, parts or materials may not necessarily be from a domestic source. It could have been bought internationally and as such the exchange of foreign currency would have had to be taken place.

From a financial perspective, some people may trade the Forex market for profit. By taking a cross currency pair, they may exchange currency to a foreign designation hoping for domestic currency values to depreciate, thus when you convert it back you will receive more than you initially started.

For international importer or exporter of goods and services, there are great opportunities by having access to the international market. However, with fluctuating international currency rates, payment can sometimes be difficult. Initially companies make a sale for an agreed price, then on the day of payment the agreed value is significantly less than agreed to, due to a currency fluctuation is known as foreign exchange risk.

You will find all types of businesses, from large financial institutions to small retail freight forwarders will practice foreign exchange hedging. Simply put, these companies will put in place measure to ensure that their agreed payment value will represent the same value at the day of payment regardless of currency value fluctuations.

The Eight (8) Major Currencies

Internationally, there are eight (8) currencies that are traded more than other currencies. These are often referred to as Majors. These currencies are as follows:

USD – Unites States Dollar

JPY – Japanese Yen

GBP – British Pound

CAD – Canadian Dollar

EUR – European Currency Unit

CHF – Switzerland Dollar

AUD – Australian Dollar

NZD – New Zealand Dollar.

Certain parts of the world have part of their Saturday to trade, as it’s still Friday in other markets.
Financial institution in these countries may be dealing with the Forex market during their work hours, the Forex market is open and trading 24 hours, 5 days a week. For someone living in the East Coast of Australia, the market hours for the corresponding markets are outlined below:

New York session opens at 10:00pm and ends around 7:00am

Sydney session starts at 7:00am and ends around 4:00pm

Tokyo session begins at 9:00pm and ends around 6:00am

London opens at 5:00pm and ends around 2:00am.

 
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