Are you new to the world of forex exchange? If so, it may seem like a daunting task trying to understand all the terminology that comes with investing and trading. Don’t worry! We’re here to help demystify this universe for you and get you on your way toward becoming an expert forex trader. Knowing how to talk about different currency pairs and what terms like “long” and “short” mean when referring to FX trading is essential.
This article covers key vocabulary words and gives examples of how they are used in today’s markets. You’ll be looking at graphs and understanding exchange rate quotes in no time! Let’s begin exploring the beginner vocabulary needed to start trading forex now!
Currency Pair
Currently, 180 different currencies are in use throughout 195 different nations. Traders are responsible for making well-informed decisions about how a currency will do in the market by conducting various types of analysis and research. When trading forex, currencies are bought and sold in pairs. When one currency is purchased, the other is sold.
- Base currency- This refers to the initial currency in a currency pair, for example, in GBP/EUR. GBP is the base currency.
- Quote currency- This refers to the currency that comes second in a currency pair; for example, in GBP/EUR, EUR is the quote currency.
Trading in the foreign exchange market is based on the relative value of one currency to another. If you “buy” EUR/USD, you’re speculating that the euro will appreciate in value relative to the US dollar.
Currency pairings are divided into three major groups:
Major Pairs
The eight most-traded currency pairings all employ the US dollar as either the base or quote currency and one of the following: EUR, CAD, GBP, CHF, JPY, AUD, and NZD.
Cross Pairs
Any pair of major currencies in which the US dollar is neither the base currency nor the quote currency is called a “cross pair.” The volatility of these pairs is higher than that of major pairs.
Exotic Pairs
Exotics, in a literal sense, contain less-familiar currencies that may experience high levels of market volatility with the major pairs. Examples include EUR/TRY, USD/SEK, and USD/MXN.
Bullish or Bearish
Market sentiment provides insight into the performance of a certain market as a whole. A bullish outlook in the financial markets means that buyers are more sure about the direction of prices than sellers are. A bearish market indicates a downward trend in pricing.
Risk management
Risk management refers to the use of methods for coping with uncertain outcomes. Stop-loss orders are one such strategy that may be used to limit financial loss in the event of a transaction.
Stop-loss orders are used for risk management by automatically closing a trade at a specified price (the “stop loss price”). This may avoid further deficits on an open transaction if prices continue in an unfavorable direction for the investor. It is important to keep in mind that standard stop loss orders do not ensure filling at the specified market price owing to slippage.
A take profit order is a risk management instrument that triggers the closing of a trade after it achieves a certain level of profit. This may help mitigate the risk of having one’s profit wiped out by an unexpected reversal in price before a trade is closed.
Fundamental and Technical analysis
Fundamental analysis attempts to foretell the future direction of a currency pair using macroeconomic and political factors. Foreign exchange traders who use this technique often consider how broader economic shifts may affect the value of individual currency pairings.
Technical analysis is a method of forex trading that uses historical price charts to make forecasts about the future direction of a currency pair.
Leverage
Leverage in forex trading is all about borrowing capital to make trades that have a much bigger impact on your profits. It’s an incredibly powerful tool and can be used to dramatically increase your profits!
If you take advantage of leverage, it’s like hitting the accelerator and going from first gear straight to fifth. For example, if you were trading with $1,000 of your own money and using a leverage ratio of 1:100, you’d suddenly have access to trade as if you had $100,000 in buying power.
Bid / Ask price
In simple terms, the bid is the price at which you can buy a currency pair, the ask is the price at which you can sell the same currency pair, and the spread is the difference between those two prices. To give an example, if you’re trading EUR/USD and the bid is 1.0753, and the ask is 1.0762, then in this case, your spread would be 0.0009. The spread is how forex brokers make their money, so you don’t have to pay extra fees.
Going Long / Short
Long positions in currency pairs consist of buying the base currency and selling the quote currency. To “go long” on a currency, or to purchase it, is to speculate that its value will increase.
For example, purchasing EUR/USD means you expect to profit with the euro increasing in relation to the US dollar. Going short involves selling the first currency and purchasing the second in hopes that the second will rise in relation to the first.
Margin
Margin refers to the initial investment required by a broker before a trader may initiate a position. With the use of margin, a trader may establish a more substantial position. Margin trading allows investors to get into a position with just a fraction of the whole value of the position being put up. Margin allows traders to take advantage of leverage.
You have greater buying power with a margin account, while leverage enables you to trade positions greater than the amount of money in your account. Higher margin requirements result in a lower leverage ratio.
PIP
PIP, or percentage in point, is the lowest increment by which a currency pair’s exchange rate may fluctuate. A currency pair’s PIP is the fourth decimal place in the quoted exchange rate. It’s the standard by which monetary worth is measured.
Lot Size
In the forex market, a lot is the standard unit to measure the trade volume of a transaction. One lot is equal to 100,000 units of the base currency in a standard market. To put this into perspective, with one standard lot trading USD/EUR, you would be dealing with an amount equivalent to 100,000 US dollars. In comparison, most retail forex brokers will set a trading limit of 0.01 lots or 1000 units for their clients.