Forex stands for foreign exchange and refers to the buying and selling of a single currency in exchange for another. Of all the markets in the world, forex is the most heavily traded as people, businesses, and countries all participate in it, and it’s an easy market to enter without much capital. As an example, wherever you go on a trip and change your rupees to dollars, you participate in the global foreign exchange market by default. At any point, the demand of a particular currency will push the value of that currency up or down in value in comparison to other currencies. Here are some of the basics of the currency market so that you can take the next step and begin forex trading.
A Primer for Currency Pairs
Before you get into your first trade, it is crucial to learn about what currency pairs are and their significance. In the forex market, one always trades in currency pairs. When you switch out rupees for euros, there are two separate currencies involved, so the exchange always shows the value of a single currency relative to the other. The rupee to euro price, for instance, lets you know how many rupees it takes to buy one euro.
The forex market uses symbols so it can designate specific currency pairs. EUR is the official designation for the euro, while USD is the official designation for the U.S dollar. Currency symbols that are traded commonly include GBP (Great British pound), AUD (Australian dollar), CAD (Canadian dollar), JPY (Japanese yen_, NZD (New Zealand dollar), and CHF (Swiss franc). Each currency pair traded in forex will have a market price that is associated with it. The currency price refers to the amount it takes for the second currency to purchase one unit of the first currency.
In case the price of the EUR/USD currency pair was to be 1.3635, this indicates that it would take 1.3635 USD to purchase a single euro. If the price of the EUR/USD currency pair is 1.3635, this means that it costs 1.3635 U.S. dollars to buy one euro. Foreign currency converters online can help you see the value of one currency with respect to another.
A Quick Overview of Market Pricing
Learning how to trade on forex involves learning a small amount of new terminology that describes the price of currency pairs. Once you understand this as well as how to calculate your trade profit, you grow a step closer to making your first currency trade. Many currency pairs will grow about fifty to a hundred pips per day, sometimes more or less than this depending on overall market conditions. PIP stands for Point in Percentage, a name used to indicate the fourth decimal place in a currency pair, or in the case of a JPY currency pair, the second decimal place.
As an example, if the price of EUR/USD changed to 1.3650 from 1.3600 this is considered a pip move. Hence, say that you bought a pair at 1.3600 and sold it at 1.3650, you would make a 50-pip profit. The profit that you make on the trade described above will depend on how much currency you purchased. For example, if you bought a thousand units in USD, called a micro lot, you would calculate a profit as 50 pips multiplied by $0.10 each, which is $5 for a 50 pip gain. Assuming you purchased a 10,000 unit lot, otherwise referred to as a mini lot, then each pip is worth a dollar.
Then your profit ends up being $50 dollars, assuming you bought 10,000 units, where each pip is $1. In case you bought 100,000 units, which is the standard for the lot, for each pip that is worth $10, your profit would be $500. If you bought a 100,000 unit (standard lot) each pip is worth $10, so your profit is $500. Pip value is how much each pip is worth. For any pair, where the USD is listed second, the pip values apply. If the USD, is listed first, then the pip value may differ.
For trading purposes, the very first currency pair that is listed is always the directional currency on the price chart of forex. In case the price is moving up on EUR/USD, it implies that the euro is moving higher relative to the US dollar. In case the price on the chart starts to dip, then the euro is said to be declining in its value relative to the dollar. One of the ideal ways to learn about forex is to see how its prices move in real-time and place some fake trees through an account with an account referred to as a paper trading account so that there is no actual financial risk that comes to you.
Multiple brokerages offer an online or mobile phone-based paper trading account that will work exactly the same way as a live trading account, but your own capital will not be at risk. Many online simulators for practicing day trading are available so that you can hone your skills for forex trading. Understanding the concepts above will aid in grasping what happens when you see a forex pair rising or dropping on a chart. In case you do the math on the difference between the two price points, this will also help you see a potential for profit available from such moves.
What Determines a Currency’s Exchange Rate?
Foreign exchange rates fluctuate daily and are influenced heavily by the following factors.
In general, inflation is where the prices increase thereby resulting in a drop in the purchasing value of money. A country that has a lower inflation rate than another’s will observe an appreciation in its currency’s value. A country with a lower inflation rate than another’s will see an appreciation in the value of its currency. The higher the inflation rate, the more depreciation in its currency.
Balance of Payments:
The difference between the total value payments into and outside of a country is known as the balance of a country. To put it simply: Payments for imports can be subtracted from the payments for exports to give one the net balance of payments. If a country has a deficit in foreign exchange as a result of spending more on its currency imports, this can result in depreciation in its currency, as this tends to require more foreign currency than the country has earned.
Other factors that affect foreign exchange rates are terms of trade, interest rates, government debt, recession, and political stability.
Foreign currency exchange is one of the most active trading segments and is carried out on forex, which is the international market for this. A foreign exchange rate is determined by multiple factors and is constantly fluctuating. Forex gives you the opportunity to make the most out of foreign exchange rates, as one can trade on huge margins with a market that is open 24×7.