Terminology and Market Conventions

If you are going to trade forex you need to understand the terms and quoting conventions used, especially in regards to the spot market.

Notational Conventions

The forex market uses 3-letter codes for all currencies. These are commonly known as SWIFT or ISO codes. For example, USD is the code for the US Dollar. Here are the codes for the other primary currencies:

AUD: Australian Dollar
CAD: Canadian Dollar
CHF: Swiss Franc
EUR: European Euro
GBP: British Pound
JPY: Japanese Yen

( For a complete listing of all currency SWIFT codes, click here. )

Expressing a relational value between two currencies is done by combining two currency abbreviations in the fashion of XXX/YYY. This indicates the amount of YYY currency (the "quote" currency) equivalent to one unit of XXX ("base" currency). For example if the exchange rate for USD/JPY - the US Dollar to Japanese Yen rate - was 100 it would mean that each USD is worth 100 JPY.

Using this convention, changes up or down in the quoted exchange rate indicate changes up or down in the value of the base currency. Using the USD/JPY example again, if the rate went from 100 to 101 it would mean a 1% increase in the value of the USD against the JPY. Similarly, a decline from 100 to 99 would represent a 1% fall in the USD value vs. the JPY.

In theory, one could quote the exchange rates either way around - meaning if USD/JPY is 100 it is the same as saying JPY/USD is 0.01 (one JPY is worth $0.01). In practice, however, the forex market has specific conventions for the traded pairs. In most cases, USD is the base currency, with the other currency in question being the quote currency. USD/JPY is an example.

There are a few exceptions, though. When it was introduced in 1999, the market authorities decided the Euro would always be the base currency in all traded pairs. Before that, the Pound (GBP) held that distinction. Thus, when traded against either of those, the USD is the quote currency (EUR/USD, GBP/USD). The same also holds for former British Commonwealth currencies the Australian Dollar (AUD/USD) and the New Zealand Dollar (NZD/USD).

It is worth noting that forex futures contracts involving currencies as quoted against the US Dollar do not hold to the spot market convention. Instead they all use the USD as the quote currency.

Majors and Crosses

In the forex you will here the terms "majors" and "crosses" when traders refer to different categories of currency pairs. In general terms, the "majors" are the pairs which include the USD quoted against the other primary industrialized currencies. Those include the ones listed above. So the majors are as follows:

AUD/USD
EUR/USD
GBP/USD
USD/CAD
USD/CHF
USD/JPY

While technically every currency pairing is a cross-rate, the term "cross" is most commonly used to refer to currency pairings which do not include the USD. For example, EUR/JPY is the Euro-Yen exchange rate. That would be considered a cross.

Forex Price Quotes

With an understanding of what we are looking at, now we can turn out focus to the actual price quotes. The graphic shows a sample table of quotes for an array of currency pairs - majors and crosses.

One thing you will notice in the table is that some pairs are quoted to four decimal places, while others only go out two places. In general terms, those pairs with values of about 10 or less will go out to four places, while those with higher values will be quoted only at two places.

Regardless of how many decimal places a currency pair is quote to, though, the term "pip" is used to define a single price movement value. So, for a two decimal place pair, a pip would be .01, while for a four decimal place pair a pip would be .0001.

We can see this in the quotes on the chart, especially when looking at the bid/offer spreads. AUD/JPY is quoted at 79.60-79.64, which is a 4 pip spread, while AUD/USD is quoted 0.7648-0.7650 for a 2 pip spread.

In recent times there has been introduced the "pipette", which is a fraction of a pip. In essence, some of the more popular pairs like EUR/USD are trading at five decimal places now, which is why you can see a spread of 1.5 listed on the chart (column to the right of the price quote itself). That means the bid-offer spread is 1 and 5/10 pips.

One will sometimes here the term "figure" in spot forex trading. That is used to refer to a price level which is a round 100 pip figure. In USD/JPY that would be a multiple of 1 full JPY (such as 104), while in GBP/USD the figure would be a $0.01 multiple (like 1.8800).

The term "yard" sometimes comes up as well. That is used to refer to a one billion base currency transaction. So a yard of USD/JPY would be $1 billion.

Getting in to the Trading

Opening an Account

It is quite easy to start trading forex. There are a great many forex brokers available and opening an account is pretty straightforward. Some things you should consider as you look to identify the one best suited to you are:

• Account minimum deposit (if any)

• Transaction size flexibility

• Spreads

• Execution

• Commissions (if any)

• Security of deposited funds

• Allowable leverage

• Currency pairs available for trading

• Usability of the trading platform

The great thing is that nowadays the vast majority of brokers have available demo trading platforms you can use to evaluate their system. Be sure, though, to make note of any differences there are between the real platform and the demo one. Some brokers' platforms are both the same across the board, but some have noticeable differences in things like execution speeds. It wouldn't hurt to check around the discussion boards to see what others are saying.

Actually, if you are new to forex trading it is well worth it to spend a while trading via a demo platform first. It will help you develop and understanding of how it all works. That way, when you do go live, you will be more confident and ready for action.

Making Trades

Forex market trading is really little different from an execution perspective than most other markets. You can buy or sell. In most cases, the same types of orders (stops, limits, etc.) are available. The trading platforms are very modern and trades can be done very quickly. Anyone who has ever used an online trading platform for any other market will have no trouble making the move to forex and executing trades with ease. For that matter, even those new to trading will find entering and exiting forex positions a breeze.

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