Understanding the Elements of a Forex Trade
To become a Forex trader, most newbies find that the process of learning required for them can be a formidable task. The lack of a proper approach to learning the basic elements of Forex trading often leaves them feeling confused and frustrated due to lack of confidence needed to achieve their trading success. It is therefore very important for a beginner to understand the following elements of Forex trading prior to their trade.
How Do You Read A Currency Quote?
Since traders always compare one currency to another when comes to trading, currencies are therefore quoted in pairs such as EUR/USD or GBP/USD. The currency in front of the pair is the base currency and followed by the quote or counter currency behind. For example, EUR/USD (Euros versus US Dollars) is at 1.4000, meaning one euro is equivalent to 1.4000 US dollars.
What is Ask and Bid Quotes?
There are 2 sections for a forex quotes and they are the Ask and the Bid. The ask or ‘the offer price’ is the price the market sells the base currency to you in exchange for the quote currency. The bid is the price the market is willing to buy the fixed currency pair from you. The Ask price is always above the Bid. The difference between the Ask and Bid price is called the Spread or the Pip. The spread is the broker’s commission for the transaction done on your trade.
What Is A Pip?
The ‘percentage in point’ or pip is the unit of measurement expressing the difference in value between two currencies pair of a Forex trade. If EUR/USD rises from 1.2400 to 1,2410, the difference of .0010 rise is ten pips. Most of the currency pairs with the exception of the Japanese yen are quoted to four places from the decimal point. The last decimal place of a quote which is the fourth place is counted as “pips.” Each point that place in the quote goes is 1 pip.
What Is A Lot?
A lot is the specific number of currency units or trade size available for a Forex trade. There are 4 different types of lot available, and they are Standard, Mini, Micro and Nano lot. The size of a standard lot is 100,000 units, for mini, micro and nano lots are 10,000, 1,000 and 100 units respectively. For example, certain Forex brokers provide a standard lot size of 1,000 units of currency and you can place trades of various sizes, as long as they are in increments of 1,000 units like 2,000; 3,000; 15,000; 112,000.
Table above shows the different effects of Leverage on 2 traders after they lost on their trade.
What Is Leverage?
As mentioned earlier, all Forex trades are executed on borrowed money. This allows you to take advantage of your leverage. Leverage of 50:1 means that a $50 margin deposit would enable you to buy or sell $2,500 worth of currencies. With this, you can reap huge profits at the slightest movements in the currencies. On the other hand, leverage can also cause you significant losses. Trading Forex with any position of leverage may not be satisfactory for all investors.
What is Margin?
Margin is the fixed amount of money that you are required to set aside in order to preserve a position. Margin can be considered as a good faith deposit or trade deposit. It is not a transaction cost or a fee, it is just a part of your account equity put aside and allocated as a margin deposit commonly known as ‘account or initial margin.’
What is Equity?
Equity is part of the total capital needed to trade. If you trade heavily leveraged positions with a few hundred dollars in your start-up account, your chances of success are minimal. Equity is very crucial to your trading success.
Slippage
Slippage is the difference between the actual price you receive or pay and the price stated on your computer screen. The more liquid the market, the least the slippage occurs as more traders are present to take your trade on the other side.
Go Long or Short
A trader’s term ‘go long’ or taking a ‘long position’ means buy and ‘go short’ or taking a ‘short position’ means sell.
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