Part III: Getting Started Trading Forex
Terminology and Market Conventions
If you are going to trade forex you
need to understand the terms and quoting conventions used, especially in regards
to the spot market.
Notational Conventions
The forex market uses 3-letter
codes for all currencies. These are commonly known as SWIFT or ISO codes. For
example, USD is the code for the US Dollar. Here are the codes for the other
primary currencies:
AUD: Australian Dollar
CAD: Canadian Dollar
CHF: Swiss Franc
EUR: European Euro
GBP: British Pound
JPY: Japanese Yen
( For a complete listing of all
currency SWIFT codes,
click here. )
Expressing a relational value
between two currencies is done by combining two currency abbreviations in the
fashion of XXX/YYY. This indicates the amount of YYY currency (the “quote”
currency) equivalent to one unit of XXX (“base” currency). For example if the
exchange rate for USD/JPY – the US Dollar to Japanese Yen rate – was 100 it
would mean that each USD is worth 100 JPY.
Using this convention, changes up
or down in the quoted exchange rate indicate changes up or down in the value of
the base currency. Using the USD/JPY example again, if the rate went from 100 to
101 it would mean a 1% increase in the value of the USD against the JPY.
Similarly, a decline from 100 to 99 would represent a 1% fall in the USD value
vs. the JPY.
In theory, one could quote the
exchange rates either way around – meaning if USD/JPY is 100 it is the same as
saying JPY/USD is 0.01 (one JPY is worth $0.01). In practice, however, the forex
market has specific conventions for the traded pairs. In most cases, USD is the
base currency, with the other currency in question being the quote currency. USD/JPY
is an example.
There are a few exceptions, though.
When it was introduced in 1999, the market authorities decided the Euro would
always be the base currency in all traded pairs. Before that, the Pound (GBP)
held that distinction. Thus, when traded against either of those, the USD is the
quote currency (EUR/USD, GBP/USD). The same also holds for former British
Commonwealth currencies the Australian Dollar (AUD/USD) and the New Zealand
Dollar (NZD/USD).
It is worth noting that forex
futures contracts involving currencies as quoted against the US Dollar do not
hold to the spot market convention. Instead they all use the USD as the quote
currency.
Majors
and Crosses
In the forex you will here the
terms “majors” and “crosses” when traders refer to different categories of
currency pairs. In general terms, the “majors” are the pairs which include the
USD quoted against the other primary industrialized currencies. Those include
the ones listed above. So the majors are as follows:
AUD/USD
EUR/USD
GBP/USD
USD/CAD
USD/CHF
USD/JPY
While technically every currency
pairing is a cross-rate, the term “cross” is most commonly used to refer to
currency pairings which do not include the USD. For example, EUR/JPY is the
Euro-Yen exchange rate. That would be considered a cross.
Forex
Price Quotes
With
an understanding of what we are looking at, now we can turn out focus to the
actual price quotes. The graphic shows a sample table of quotes for an array of
currency pairs – majors and crosses.
One thing you will notice in the
table is that some pairs are quoted to four decimal places, while others only go
out two places. In general terms, those pairs with values of about 10 or less
will go out to four places, while those with higher values will be quoted only
at two places.
Regardless of how many decimal
places a currency pair is quote to, though, the term “pip” is used to define a
single price movement value. So, for a two decimal place pair, a pip would be
.01, while for a four decimal place pair a pip would be .0001.
We can see this in the quotes on
the chart, especially when looking at the bid/offer spreads. AUD/JPY is quoted
at 79.60-79.64, which is a 4 pip spread, while AUD/USD is quoted 0.7648-0.7650
for a 2 pip spread.
In recent times there has been
introduced the “pipette”, which is a fraction of a pip. In essence, some of the
more popular pairs like EUR/USD are trading at five decimal places now, which is
why you can see a spread of 1.5 listed on the chart (column to the right of the
price quote itself). That means the bid-offer spread is 1 and 5/10 pips.
One will sometimes here the term
“figure” in spot forex trading. That is used to refer to a price level which is
a round 100 pip figure. In USD/JPY that would be a multiple of 1 full JPY (such
as 104), while in GBP/USD the figure would be a $0.01 multiple (like 1.8800).
The term “yard” sometimes comes up
as well. That is used to refer to a one billion base currency transaction. So
a yard of USD/JPY would be $1 billion.
Getting in
to the Trading
Opening
an Account
It is quite easy to start trading
forex. There are a great many forex brokers available and opening an account is
pretty straightforward. Some things you should consider as you look to identify
the one best suited to you are:
Account minimum deposit (if
any)
Transaction size flexibility
Spreads
Execution
Commissions (if any)
Security of deposited funds
Allowable leverage
Currency pairs available for
trading
Usability of the trading
platform
The great thing is that nowadays
the vast majority of brokers have available demo trading platforms you can use
to evaluate their system. Be sure, though, to make note of any differences there
are between the real platform and the demo one. Some brokers’ platforms are
both the same across the board, but some have noticeable differences in things
like execution speeds. It wouldn’t hurt to check around the discussion boards to
see what others are saying.
Actually, if you are new to forex
trading it is well worth it to spend a while trading via a demo platform first.
It will help you develop and understanding of how it all works. That way, when
you do go live, you will be more confident and ready for action.
Making
Trades
Forex market trading is really
little different from an execution perspective than most other markets. You can
buy or sell. In most cases, the same types of orders (stops, limits, etc.) are
available. The trading platforms are very modern and trades can be done very
quickly. Anyone who has ever used an online trading platform for any other
market will have no trouble making the move to forex and executing trades with
ease. For that matter, even those new to trading will find entering and exiting
forex positions a breeze.