How Forex Currencies Are Quoted And What Makes Them Move
If you are new to FX online trading you have been introduced to a lot of new lingo. So let just review some of the common jargon. The amount of money you need to place a trade is known as a “margin”. Currencies are traded in dollar amounts known as “lots”. There are mini lots and standard lots. Here is another term to throw into the mix, forex pip. A forex price quote price/point (pip) system; it will look something like this EUR/USD 1.2210/13
Lets take a look at each of these forex components.
Buying On Margin
A margin is borrowed money that is used to purchase securities or foreign currencies. This practice is commonly referred to as “buying on margin”. As a forex trader, you can buy a large sum of foreign currency with actually paying only for a fraction of the investment. Here is an example: If you deposit $1000 in a margin account you will have a leverage ratio of 1:1000. In other words you potentially have $100,000 for your forex trading transactions. The advantage of a margin trading account; is that with margin trading you can increase your buying power and have bigger profits. Sounds good right!!
Here is the bad news. If a currency drops, even by one pip, you are essentially losing 100 times the drop. With a “margin account”, a drop in the currency can liquidate your account and also leave you owing money. You have to be willing to lose the money you are trading. There are tools to assist you with you stop losses. That is another discussion.
Standard, Min and Micro Lots
The “forex lot” is a representation of a trade size. These trade sizes come in different formats. A standard lot is equal to 100,000 units of the base currency. E.G The pip value $10 for EUR/USD.
A Forex Lot is the amount of currency you buy or sell.
Mini Lot represents 10,000 and a Micro Lot represents 1,000.
So essentially 10 Mini Lots make 1 Standard Lot and 10 Micro Lots make 1 Mini Lot.
100 Micro Lot = 10 Mini Lot = 1 Standard Lot
When you place orders online you should know what type of account you have. Also ask your forex broker what type of trades he or she allows. Some forex brokers allow you to trade standard lots and mini lots. Some brokers only allow Standard Lot trades.
PIP – Percentage In Point
A “PIP” represents the smallest value of currency measurement. Unlike dollars and cents which are calculated up to two decimal places, the currencies on the forex market are calculated up to the fourth decimal point. The smallest move that a PIP can have is .0001. This represents 1/100th or commonly referred to as 1 basis point. The one exception to the fourth decimal point is the Japanese Yen, which is only calculated up to two decimal places.
Unlike stocks and futures, forex currencies are traded on a price / point (pip) system. Each currency pair has its own pip value. Some common symbols used in Forex are:
USD – The US dollar EUR- The currency of the European Union “the euro ” GBP- The British Pound or Cable. JPY- The Japanese Yen CHF- The Swiss Franc AUD- The Australian Dollar CAD – The Canadian Dollar
The currency left of the / is called the base currency. The currency right of the / is the counter currency.
When you place and order to buy GBP/ CAD you are actually buying the British Pound and selling the Canadian dollar. If you were to sell the pair, you sell the GBP and buy the CAD. When you buy or sell currency, you are buying/selling the base currency.
Just remember the entire currency pair as one item. For a buy transaction, you buy the first currency and sell the second currency. For a sell transaction, you sell the first currency and buy the second currency.
The down fall with traditional stock trading; is that the market has to go up for you to make money. With FOREX trading you can make money in all directions. Regardless of the direction of a currency you can still make a profit via forex day trading.