Forex Trading
Forex or currency trading is the exchange of currency of one country for another’s. When you, as an investor, are trading foreign exchange , you anticipate that one currency will appreciate over the other, and you hope to pocket the difference when you return to the original currency in which you took a position.
In forex trading, currencies are quoted in pairs. Example of currency pairs are EUR/USD and USD/CAD.
The first listed currency is the base currency. In EUR/USD, Euro is the base currency. This is what you bought. The second currency is the currency that you sold, which, in this case is the US dollars.
If the EUR/USD is quoted at 1.5399, it means 1 EUR = 1.5399 USD. If this quote increased to 1.5400, that means it moved up one pip. A pip is the smallest increment a currency pair can move. Since forex is traded in lots, 1 pip movement or .0001 is worth $10 in a regular account and $1 in a mini account in some forex brokers.
In forex trading, you can also short (or sell) a currency that you think will fall in price versus another currency.
In the above example, if you think that EUR will fall against the USD, then you will sell the EUR/USD pair. If the EUR/USD goes down to 1.5398, a one pip movement downward, then you gain $10 in a regular account or $1 in a mini account.
Please note that these are profitable examples. Actual trading can actually cost you money if you are on the wrong side of a trade.
Below are two other important forex trading concepts you need to know:
Spread - On typical forex software , you will notice that there are two prices for each currency pair. Similar to all financial products, FX quotes include a "bid' and "ask". The bid is the price at which a dealer is willing to buy and clients can sell the base currency in exchange for the counter currency. The ask is the price at which a dealer is willing to sell and a client can buy. The difference between the bid and ask constitutes the spread and it represents the main source of revenue for the firm that executes your trade.
Margin - If you have a standard cash stock account, you know that money should be deposited for the full amount of the position you are trading, or if you have a margin account, for at least half of the position. This is in contrast to the forex market where only a small percentage of the actual position value needs to be deposited prior to taking on the entering the trade. This small deposit, known as the margin, is not a down payment, but rather a performance bond or good faith deposit to ensure against trading losses. The margin requirement allows traders to hold positions much larger than their account value. For many forex brokers, the margin for regular account is up to 100:1, meaning your $1 controls $100, and for mini account, it is up to 200:1.
Forex traders base their trades on forex news or technical analysis (or both). In trading forex news, you have to keep track of economic news and learn to read the economic calendar. A currency’s value is usually based on the confidence in the economic strength of the country. If a country’s economy is weakening, this usually results in its currency’s being devalued, and vice versa.
Trading using technical analysis means reading the charts and making interpretations based on indicators like the Moving Average Convergence/Divergence (MACD), Stochastics, Relative Strength Index (RSI), and Bollinger Bands.