Foreign Currency Exchange (FOREX) is one of the main instruments traded through online brokers. In the most basic terms, it is the practice of exchanging one currency for another anticipating that the new currency will either increase or decrease in value making the swap back to the original currency profitable. If you have ever exchanged currency to travel to another country and changed back when your returned, you have already been involved in FOREX trading.
Because FOREX trading is the act of exchanging one currency for another, trades are conducted in pairs. It is not necessary for you to own the currency you are trading from, nor do you need to buy the currency you are trading into. Instead, with most brokers, you will find that you are simply speculating on the change in value of one compared to the other.
TYPES OF CURRENCIES
Currencies are generally referred to as either Majors, Minors, or Exotics.
– The Major currencies are the US Dollar (USD), the Euro (EUD), the Japanese Yen (JPY), the British Pound Sterling (GBP), and the Swiss Franc (CHF).
– Minors are from one of two categories, commodity currencies or scandinavian currencies.
– Commodity currencies are the Australian Dollar (AUD), the New Zealand Dollar (NZD), and the Canadian Dollar (CAD). They are all countries that are heavily dependent on exporting raw materials and so these currencies are linked to the rise and fall of commodity prices.
– Scandinavian currencies are the Danish Krone (DKK), the Norwegian Krone (NOK), and the Swedish Krona (SEK). It should be noted that some brokers will consider Scandinavian currencies to be exotics.
– Finally the exotic currencies are the remaining world currencies that do not belong in the Major or Minor categories. Exotics are so called because there is significantly less volume being traded and as such, they can be very volatile. Some of the more commonly traded exotics are; the South African Rand (ZAR), the Hong Kong Dollar (HKD), and the Singapore Dollar (SGD).
TYPES OF CURRENCY PAIRS
Currency pairs are also grouped into the Major, Minor, and Exotic categories. An additional category of “Crosses” or “Other Crosses” is sometimes added into the mix. What is considered a Major currency pair can vary depending on your broker. Some consider a Major currency pair to be any pair that includes the USD and another Major or Minor currency. Others consider major pairs to be any combination of the major currencies. Mostly it will be safe to assume that whatever method used will be based on the trading volume of these currencies. Minor pairs are usually any pair involving at least one minor and no exotics such as AUD/NZD or EUR/CAD. Remembering that some brokers will consider these pairs to be major pairs if they include the USD. Brokers sometimes use “Crosses” or “Other Crosses” to differentiate between minor pairs that include a major currency and those that don’t (Crosses). Finally, Exotics are any pair that include an exotic currency.
ORDER IS IMPORTANT
When considering whether to go long (buy) or go short (sell) in FOREX it is important to know the order of the currency pair. The first currency named is the Base currency, and if you are going long on the pair this will be the currency that you are “buying”. The second is the Quote currency, and this is the currency you will be using to “buy” the base currency. For example, if the price for the currency pair EUR/USD is 1.25000 it will cost you $1.25USD to buy one Euro. If the price of the Euro goes up comparative to the USD, a Euro may now cost $1.28USD to buy. When you “Sell” this currency pair, known as completing the “round trip”, you will receive $1.28USD per Euro. In brief, you want to go long (buy) when the first listed currency will get stronger against the second. You want to go short (sell) when the first will get weaker against the second.
SO WHY FOREX?
The reason to trade in foreign currency is a simple question of mathematics. FOREX is the most traded instrument in the world. Over $6.6 trillion traded per day with most of these trades occurring during the London and New York market openings. The sheer volume of the market can make it more predictable as it is less subject to institutional manipulation or, as we have seen recently with Game Stop, the whims of Redditors. It is also one of the most accessible instruments to trade. The FOREX market opening in Sydney, Australia on their Monday morning (5pm EST Sunday) until the New York close at 4pm on Friday afternoon. During that time it trades 24hrs per day across all of the worlds time zones.
Series 1 – What is…?
Episode 1 – FOREX
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