What is forex trading?
Foreign exchange trading – also known as forex trading or FX trading – is the process of buying and selling currencies with the goal of making a profit from fluctuations in their exchange rates.
Currency pairs are the cornerstone of every transaction in forex trading. A currency pair consists of two different currencies traded in relation to one another. These pairs determine the exchange rate between the two currencies.
The first currency in the pair is called the base currency, and the second is the quote currency. The value of the pair shows how many units of the quote currency are equal to one unit of the base currency.
Example: In the popular EUR/USD pair, the euro (EUR) is the base currency, and the US dollar (USD) is the quote currency. If the EUR/USD rate is 1.1000, it means that 1.1 US dollars equals 1 euro. If it rises to 1.1200, it means that 1.12 US dollars equals 1 euro.
What are the types of currency pairs in forex trading?
Currency pairs are categorised into three main groups:
- Major currency pairs: Consist of the most liquid and widely traded currencies globally, such as EUR/USD, USD/JPY, and GBP/USD (also known as "cable"). These typically offer high liquidity and lower spreads.
- Minor currency pairs: Also known as 'cross-currency' pairs—these do not include the US dollar. Examples include EUR/GBP and AUD/JPY.
- Exotic currency pairs: Involve one major currency and one currency from a smaller or emerging economy, such as USD/TRY or EUR/TRY. These can be more volatile and less liquid.
What are the most popular forex pairs to trade?
The major currency pairs are known for their substantial trading volumes and tight spreads. The most traded include:
- EUR/USD (Euro/US dollar)
- USD/JPY (US dollar/Japanese yen)
- GBP/USD (British pound/US dollar)
- AUD/USD (Australian dollar/US dollar)
- USD/CHF (US dollar/Swiss franc)
- USD/CAD (US dollar/Canadian dollar)
- NZD/USD (New Zealand dollar/US dollar)
How does forex trading work?
Forex trading is highly liquid, with over $7.5 trillion traded daily. Key elements include:
- Bid and Ask Prices: The bid is what the broker pays to buy from you; the ask is the price at which they sell to you. The difference is the spread.
- Speculation: Traders go "long" (buy) if they believe a currency will rise, or "short" (sell) if they believe it will fall.
- Liquidity: High liquidity allows traders to enter and exit positions easily, though exotic pairs carry a higher risk of slippage.
- Accessibility & Leverage: Many brokers offer leverage, allowing traders to control large positions with a small amount of capital. This amplifies both potential profits and losses.
- Flexibility: The market operates 24 hours a day, five days a week.
Forex trading example: GBP/USD CFD trade
Imagine you want to trade a CFD at a price of 1.2000. Based on analysis, you believe the price will fall, so you open a short position worth £100,000.
- Margin: With a 3.33% requirement, you put down approximately $3,996.
- The Move: The price rises by 30 points to 1.2030.
- The Result: You close the position for a loss of $300 (1.2000 – 1.2030 × 100,000), excluding any overnight funding fees.
What influences the prices of forex currency pairs?
- Economic Releases: Data like GDP, employment figures, and manufacturing reports signal economic health.
- Political Events: Instability often leads to sell-offs, while the USD is often treated as a "safe haven" during crises.
- Interest Rates: Higher rates generally cause a currency to appreciate as investors seek better returns.
- Commodity Prices: "Commodity currencies" like CAD, AUD, and NZD are heavily influenced by the price of exports like oil and minerals.
What are the forex trading hours?
The market is divided into four major sessions. (Times in UTC):
| Session | Summer (UTC) | Winter (UTC) |
|---|
| London | 7:00am – 4:00pm | 8:00am – 5:00pm |
| New York | 12:00pm – 9:00pm | 1:00pm – 10:00pm |
| Sydney | 10:00pm – 7:00am | 9:00pm – 6:00am |
| Tokyo | 11:00pm – 8:00am | 11:00pm – 8:00am |
What are lots in forex trading?
A lot is a standard unit used to measure a trade. Lot size affects the value of a pip (usually the fourth decimal place).
| Lot Type | Units of Base Currency | Value per Pip (USD) |
|---|
| Standard | 100,000 | $10 |
| Mini | 10,000 | $1 |
| Micro | 1,000 | $0.1 |
| Nano | 100 | $0.01 |
What are forex swaps?
An FX swap is an agreement to exchange currencies at two different dates.
- Short-term swaps: Last a few days/weeks; used for liquidity or hedging.
- Long-term swaps: Last months/years; used by businesses to manage ongoing currency exposure.
Forex trading strategies to consider
- Trend Trading: Identifying and following sustained upward (bullish) or downward (bearish) movements.
- Scalp Trading: A high-speed strategy involving multiple trades a day to capture tiny price fluctuations.
- Swing Trading: Holding positions for days or weeks to capture price "swings" within a broader trend.
