The Forex market may seem intimidating to traders who are just starting out. One of the first things you’ll notice is that there is specific terminology used in Forex, which seems intricate and confusing if you’re not familiar with it. To help all newbies, we have outlined the top 10 basic Forex terms that you must know and understand in order to be successful.
Forex (Foreign Exchange Market) is the market in which currencies are traded. It is the largest and most liquid market in the world, with a daily turnover of $4 trillion every day. All participants in the Forex market are trading currencies and are speculating that the price of one currency pair will either increase or decrease compared to another currency. The ultimate goal is to make a profit from each transaction. You can trade Forex 24 hours a day, online from your computer with the services of a Forex broker.
2. Currency pair
A currency pair is made of two currencies, where one is bought and the other is sold, and vice versa. There are more than 100 currency pairs that can be traded, but the most popular ones are the “Major Currency Pairs” which include: EUR/USD, GBP/USD, USD/CAD, USD/CHF, USD/JPY, AUD/USD, and others. The two currencies together make up a price quote at the financial market, which is constantly changing.
A pip is the smallest price movement a currency can make in the upward or downward direction. Currency prices are usually always quoted with four digits after the decimal point and the last digit is called the pip. For example, with EUR/USD 1 pip = 0.0001, for currency pairs involving the Japanese Yen USD/JPY 1 pip = 0.01.
The spread is the difference between the Bid (Buy) price and Ask (Sell) price of the currency pair, shown in pips. For example, if the EUR/USD has a Bid price of 1.3400 and Ask price of 1.3403, then the spread is the difference between the two which, in this example, is 3 pips.
5. Fixed vs. Variable (floating) Spread
Forex brokers usually offer two types of spreads, fixed or variable (floating). Fixed spreads are predetermined and remain constant during all market conditions. Variable spreads, on the other hand, are always floating and usually decrease during low market liquidity and increase during high market liquidity. With LiteForex the fixed spreads start from 3 pips, while the floating spreads start from 0.1 pips.
6. Leverage (or Margin)
Leverage allows you to trade with money much higher than the funds you have in your trading account. This means that you can open larger positions. For example, if you are using 1:100 leverage, you can open a position of $100,000 with only $1,000 in your account. Using leverage helps you make larger profits; however, it also magnifies your losses if the market goes against you.
7. Lot size
Lot size is the unit size of a trade. There are three lot sizes that can be used in Forex: a standard lot which is equal to 100,000 units of the base currency, a mini lot which is 10,000 units, and a micro lot which is 1,000 units.
8. Stop loss
Stop loss is a type of order which every trader should use on their open positions. A stop loss restricts your losses and closes your position at a price level you’ve specified before. This order type helps minimize your losses, which is very important for your long term success. You should also test and use trailing stop orders, which help maximize your profits if the market goes in your direction.
9. Long vs. Short Position
There are two types of trades that can be made. With a Long Position a trader attempts to make profit from an increase in price, by buying low and selling high. With a Short Position a trader attempts to profit from a decrease in price, by selling high and buying low. The trader chooses for how long he wants to keep the position, for example a few hours, days or months.
10. Swap or Rollover
Swaps occur because of the difference in the interest rate between the two currencies which are being traded. If you have bought (placed a long position) the currency which has the higher interest rate, you will earn interest. On the other hand, if you have sold (placed a short position) the currency with the higher interest rate, then you will pay interest. Swaps are applied only to positions which are kept open for more than one working day. Depending on the swap calculation, funds will be added or retained from your trading account. If you wish to read a complete list of all terms used in Forex, you can visit the LiteForex glossary. If you feel confident about your trading skills and knowledge, open a live account or a demo account and start trading today.
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The content of this article reflects the author’s opinion and does not necessarily reflect the official position of LiteForex. The material published on this page is provided for informational purposes only and should not be considered as the provision of investment advice for the purposes of Directive 2004/39/EC.