Forex is the world's most traded market, open 24 hours a day. It is an over-the-counter market (which means that it is decentralised with no central exchange) for trading currencies.
Forex is also known as foreign exchange, FX, or the currency market. Currencies trade in pairs, like the Australia dollar versus the US dollar (AUD/USD) or the US dollar versus the Japanese Yen (USD/JPY).(GBP/USD).(EUR/GBP)
Forex trading is used to speculate on the relative strength of one currency against another. For example in a forex trade, you 'buy' if you think the first-named currency in the quoted pair is going to strengthen against the second-named one, and you 'sell' if you think the first-named currency is going to weaken.
How do I read Currency
Base currency: The base currency is the first currency in a currency pair, and the currency that remains constant when determining a currency pair's price. The United States Dollar (USD) and the European Union Euro(EUR) are the dominant base currencies in terms of daily traded volume in the foreign exchange market. The British Pound (GBP), also called sterling, is the third ranking base currency. The USD based pairs are USD/JPY, USD/CHF and USD/CAD; the Euro based pairs are EUR/USD, EUR/JPY, EUR/GBP, and EUR/CHF. The GBP is the base for GBP/USD and GBP/JPY. The Australian Dollar (AUD) is its own base against the USD (AUD/USD).
So if prices are going up or down look at the base currency first.
"I buy 100,000 Euros and sell the dollar at the Market"
So if prices are going up or down look at the base currency first.
FOREIGN CURRENCY SYMBOLS
Currencies, like equities, have their own symbols that distinguish one from another. Since currencies are quoted in terms of the value of one against the value of another, a currency pair includes the "name" for both currencies, separated by a "/". The "name" is a three letter acronym. The first two letters are in most cases reserved for identification of the country. The last letter is the first letter of the unit of currency for that country.
For example,
USD = United States DollarGBP = Great Britain PoundJPY = Japanese YenCAD = Canadian DollarCHF = Confederatio Helvetica (Latin for Swiss Confederation) FrancNZD = New Zealand DollarAUD = Australian DollarNOK = Norwegian KronaSEK = Swedish Krona
Since the European Euro has no specific country attached to it, it goes simply by the acronym EUR.
By combining one currency, EUR, with another USD, you create a currency pair EUR/USD.
THE VALUE OF CURRENCIES
The base currency is ALWAYS equal to one of the currency's monetary unit of exchange (i.e., 1 Euro, 1 Pound, and 1 Dollar). When an investor buys 100,000 EUR/USD, he is said to be buying (or receiving) the EURO or the Base Currency and selling (or paying for) the USD or Counter Currency. The amount of the Base Currency he is buying is equal to 100,000 Euros. Note that this is true no matter the current exchange rate at the time. The base currency amount remains constant.
The Counter Currency equivalent amount that the investor is selling (or paying), on the other hand, will fluctuate with the exchange rate for the Currency Pair. It is equal to:
(Amount of Base Currency x Market Foreign Exchange Rate)
Since the Counter Currency is the part of the currency pair that fluctuates higher or lower, it determines the strength or weakness of both currencies in a currency pair. As one currency goes up, the other must go down.
Currencies trade in fractions of a full unit. The smallest fraction is called a "pip". Currencies trade in pips because exchanges of currencies for speculative reasons are generally for large amounts. This is because of the leverage that is available when trading Foreign Exchange.
FXDD provides a Maximum Trading Leverage Ratio of 100:1for standard accounts. At that ratio, a 100,000 EUR position would require $1,200 of Margin at an exchange rate of 1.2000. This is calculated by taking the US$ equivalent of 100,000 EUR or US$120,000 and dividing by the 100:1 leverage ratio.
Margin Required = $120,000 / 100 = $1,200
To determine the value of a pip for the deal above the following calculation would be made:
Value in US$ = 1.20 x Par Amount of Base Currency = $120,000Value in US$ + a pip = (1.20+.0001) x Par Amount of Base Currency = $120,000
The value of a pip in dollars is equal to $120,000 - $119,990 or $10.
When a currency pair goes from a low price to a higher price, the Base Currency is said to have strengthened or gotten stronger. The converse is true for the Counter Currency. That is, it has weakened or gotten weaker as the Base Currency has gotten stronger.
Since Exchange Rates represent what a fixed amount of currency is equal to in terms of another currency, we have seen there is just one price for the Currency Pair. The movement of that price determines whether a currency is getting stronger or weaker.
If the EUR/USD exchange rate goes from 1.2000 to 1.2024, we have concluded that the EUR got stronger, the USD weaker. Why?
When looking at Foreign Exchange Rates (or prices) an action to Buy the Currency Pair implies buying the Base Currency, or EUR, and selling the Counter Currency, or USD. If the EUR/USD exchange rate moves higher, as expected, the trader can now sell the EUR/USD at a dearer/higher price. The difference represents a Profit to the trader that was Long, or who bought the EUR/USD Currency Pair.
Another way of looking at it is at 1.2000, an investor/trader could exchange 1 EUR for $1.20. At 1.2100, however, that same single EUR can now be exchanged for a higher amount of USD, in this case $1.21 USD. The EUR has strengthened or gotten stronger.
TRANSACTING FOREIGN EXCHANGE FUNDAMENTALS
BUYING AND SELLING FOREIGN EXCHANGE
What exactly do you buy or sell when you make a foreign currency transaction?
In reality, you are doing both actions - buying and selling. A transaction of Buying the EUR/USD at 1.2000 is actually buying the Euro and selling the Dollars at 1.2000 cents. If the Euro increases in value in relation to the dollar, the price would increase and the investor will make money.
If for whatever reason, a trader could not execute an order using FXDD, a verbal order to a broker could be the following:
"I buy 100,000 Euros and sell the dollar at the Market"
or
"I buy 500,000 EUR/USD on a 1.2100 stop"
or
"I buy 100,000 Euros vs. the Dollar at the market"
What is required on all verbal orders is the amount, the Currency Pair, the rate and/or the type of order. Simply saying "I buy the Dollar at the Market" is not good enough as it does not say what currency the trader wants to sell.
THE BID/ASK PRICE
Like equities, foreign exchange has a Bid price and an Ask price. The bid is where the market maker will buy. The ask is where the market maker will sell. For investors, the reverse is true. The bid price is where an investor can sell, while the ask is where an investor can buy.
The bid price is always less than the ask price. This makes logical sense as a market maker, like any investor, wants to buy low and sell high.
The spread between the bid and the ask is called the Bid/Ask Spread or Dealing Spread. The bid/ask spread is the premium that market makers charge to provide constant liquidity to a retail client base. For example, the bid and ask might be 1.2050/1.2055. The spread is 5 pips.
Paralleling foreign exchange trading to equities, a market maker, like FXDD, is the equivalent of a specialist on the floor of the exchange.
A specialist is always willing and able to make a market (i.e. provide liquidity) to the market/investor. For this service, he will have a bid where he buys the stock and an offer or ask, where he will sell the stock. The bid/ask spread the specialist charges will fluctuate with the general liquidity of the underlying stock.
That same principle applies to FXDD's Bid/Ask Spreads.
Dealing Spreads for the major currencies pairs on FXDD are 2-3 pips wide. Some less liquid currencies will be a bit wider. This reflects the relative liquidity/risk in the professional market for that particular currency pair. The dealing spreads that we quote reflect a normal market making spread given the risks we take and the costs we incur for servicing our clients' business.
Obviously, if the volatility and risk of making a market increase because the markets become less liquid, it stands to reason that our spreads will increase as well. These are universal realities of market makers and should not come as a surprise to knowing investors/traders.
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