C. FOREX Trading Basics

I. Terms Of Service

II. FOREX Market

The word FOREX is derived from the words Foreign Exchange and is the largest financial market in the world. Unlike money markets, the
FOREX market is open 24 hours per day and has an estimated 1.8 trillion in turnover everyday. This tremendous turnover is more than the combined turnover of the main world’s stock markets in a given day. This tends to lead to a very liquid market and thus a desirable market to trade.

Trades are executed thru phone and increasingly thru the internet. It is only in the past few years that the smaller participant has been able to gain access to this market. Previously the large amount of deposits required precluded the smaller participants. With the advent of the Internet and growing competition, it is now easy and within the reach of the participants.

You will often hear the term “interbank” discussed in FOREX terminology. This originally, as the name implies, is simply banks and large institutions exchanging information about the current rate at which their clients or themselves are prepared to buy or sell a currency.

Inter meaning between and Bank meaning deposit taking institutions. The market has moved on to such a degree that the term “interbank” now means anybody who is prepared to buy or sell a currency.

It could be two individuals or your local travel agent offering to exchange Euros to US dollars. You will however find the most of the brokers and banks use centralized feeds to ensure reliability of quote.

The quotes for Bid (buy) and Offer (sell) will all be from reliable source. These quotes are normally made up of the top 300 or so large institutions. This insures that if they place an order on your behalf, the institution they have placed the order with, is capable of fulfilling the order.

Source: Bank for International Settlements ⁄ http:⁄⁄www.bis.org

Understanding the Basics of Currency Trading
Clients and traders around the world are looking to the FOREX market as a new speculation opportunity. But, how are the transactions conducted in the FOREX market? Or, what are the basics of FOREX trading?

Before venturing in the FOREX market we need to make sure we understand the basics, otherwise, we will find ourselves lost where we least expected. This is what this article is aimed for.

What is traded in the FOREX market?
The instrument traded by FOREX traders and clients are currency pairs. A currency pair is the exchange rate of our currency over another. The most traded currency pairs are:

GBP ⁄ USD : Pound
USD ⁄ JPY : Yen
USD ⁄ CHF : Swiss Francs
AUD ⁄ USD : Aussie

These currency pairs generate up to 85% of the overall volume in the FOREX market. So, for instance, if a trader goes long or buys the EURO, he is simultaneously buying the EURO and selling the US dollars. If the same trader goes short or sells the Yen, he is simultaneously selling the Yen and buying the US dollar.

The first currency of each currency pair is referred as the base currency, while the second currency is referred as the counter or quote currency. Each currency pair is expressed in units of the counter currency needed to get one unit of the base currency.

If the price or quote of the EUR/USD is 1.2545, it means that 1.2545 US dollars are needed to get 1 EURO.

All currency pairs are commonly quoted with a bid and ask price. The bid (always lower than the ask) is the price your broker is willing to buy, thus the trader should buy at this price.

GBP ⁄ USD 1.9545 ⁄ 54
The bid price is 1.9545
The ask price is 1.9554

A Pip
A pip is the minimum incremental move a currency pair can make. Pip stand for point in percentage. A move in GBP ⁄ USD from 1.9545 to 1.9560 equals 15 pips. And a move in the USD / JPY from 119.00 to 120.00 is 100 pips.

[1] What is FOREX? FOREX Market?

The Market
The currency trading (foreign exchange, FOREX, FX) market is the biggest and fastest growing market in financial market. It’s daily turnover is more than 2.5 trillion dollars. The participants in this market are central and commercial banks, corporations, institutional investors, hedgers ⁄ speculators ⁄ importers ⁄ exporters, and private individuals like you.

How FOREX market operates?
Markets are places where goods are traded, and the same goes with FOREX. In FOREX markets, the “goods” are the currencies of various countries ( as well as gold and silver). For example, you might buy euro with US dollars, or you might sell Japanese yen for Canadian dollars. It’s as basic as trading one currency for another.

Of course, you don’t have to purchase or sell actual, physical currency: you trade and work with your own base currency, and deal with any currency pair you wish to.

“Leverage” in FOREX Market
The ratio of investment to actual value is called “leverage”. Using a $1,000 to buy a FOREX contract with a $100,000 value is “leveraging” at a 1:100 ratio. The $1,000 is all you invest and all you risk, but the gains you can make may be many times greater.

How does one profit in the FOREX market?
Obviously, buy low and sell high! The profit potential comes from the fluctuations (changes) in the currency exchange market. Unlike the stock market, where shares are purchased, FOREX trading does not require physical purchase of the currencies, but rather involves contracts for amount and exchange rate of currency pairs.

The advantageous thing about the FOREX market is that regular daily fluctuations – in the regular currency exchange markets, often around 1% – are multiplied by 100!

How risky is FOREX trading?
You cannot lose more than your available margin. The profit you may make is unlimited, but you can never lose more than the margin. You are strongly advised to never risk more than you can afford to lose.

How do I start trading?
If you wish to trade using the PFEC Trading Platform, you must first register and then deposit the amount you wish to have in your margin account to put up. Registering is easy with PFEC, once your deposit has been received and margin in you are ready to start trading.

How do I monitor my FOREX trading?
Online, anywhere, anytime. You have full control to monitor your trading status, check scenarios, change some terms in your FOREX trade, close trade or withdraw profits.

[2] What is FOREX trading? What is FOREX transaction?

The client’s goal in FOREX trading is to profit from foreign currency movements. More than 95% of all FOREX trading performed today is for speculative purposes (e.g. to profit from currency movements). The rest belongs to hedging (managing business exposures to various currencies) and other activities.

FOREX trades (trading onboard internet platforms) are non-delivery trades: currencies are not physically traded, but rather there are currency contracts which are agreed upon and performed. Both parties to such contracts (the trader and the trading platform) undertake to fulfill their obligations: one side undertakes to sell the amount specified, and the other undertakes to buy it. As mentioned, over 95% of the market activity is for speculative purposes, so there is no intention on either side to actually perform the contract (the physical delivery of the currencies). Thus, the contract ends by offsetting it against an opposite position, resulting in the profit and loss of the parties involved.

Components of a FOREX transaction
A FOREX transaction is a contract agreed upon between the trader and the market-maker (i.e. the Trading Platform). The contract is comprised of the following components:

The currency pairs (which currency to buy; which currency to sell)
The principal amount (or “face”, or “nominal” : the amount of currency involved in the transaction.
The rate (the agreed exchange rate between the two currencies).

Time frame is also a factor in some transactions but this chapter focuses on Day- trading (similar to “Spot” of “Current Time” trading), in which transactions have a lifespan of no more than a single full day. Thus time frame does not play into the equation. Note, however, that transactions can be renewed (“rolled-over”) to the next day for a limited period of time.

The FOREX transaction, in this context, is therefore an obligation to buy and sell a specified amount of a particular pair of currencies at a pre-determined exchange rate.

FOREX trading is always done in currency pairs. For example, imagine that the exchange rate of EUR/USD (Euros to US dollars) on a certain day is 1.1999 (this number is also referred to as a “spot rate”, or just “rate”, for short). If a client had bought 100,000 Euros on that date, he would have paid 119,900.00 US dollars. If one year later, the FOREX rate was 1.2222, the value of Euro has increased in relation to the US dollar. The client could now sell the 100,000 Euros in order to receive 122,200.00 US dollars. The investor would then have USD 2,300.00 more that when he started a year earlier.

Trade only when you expect the currency you are buying to increase in value relative to the currency you are selling. If the currency you are buying does increase in value, you must sell back that currency in order to lock in the profit. An open trade (also called an “open position”) is one in which a trader has bought or sold a particular currency pair, and has not yet sold or bought back the equivalent amount to complete the transaction.

It is estimated that around 95% of the FOREX market is speculative. In other words, the person or institution that bought or sold the currency has no plan to actually take delivery of the currency in the end; rather, they were solely speculating on the movement of that particular currency.

Exchange rate
Because currencies are traded in pairs and exchanged one against the other when traded, the rate at which they are exchanged is called the exchange rate. The majority of currencies are traded against the US dollar (USD), which is traded more than any other currency. The four currencies traded most frequently after the US dollar are the euro (EUR), the Japanese yen (JPY), the British pound sterling (GBP) and the Swiss franc (CHF). These five currencies or “the Majors”. Some sources also include the Australian dollar (AUD) within the group of major currencies.

The first currency in the exchange pair is referred to as the base currency. The second currency is the counter currency or quote currency. The counter or quote currency is thus the numerator in the ratio, and the base currency is the denominator.

The exchange rate tells a buyer how much of the counter or quote currency must be paid to obtain one unit of the base currency. The exchange rate also tells a seller how much is received in the counter or quote currency when selling one unit of the base currency. For example, an exchange rate for EUR/USD of 1.2083 specifies to the buyer of Euros that 1.2083 USD must be paid to obtain 1 Euro.

It is the difference between BUY and SELL, or BID and ASK. In other words, this is the difference between the market maker’s “selling” price (to its clients) and the price the market maker “buys” it from its clients.

If a client buys a currency and immediately sells it (and thus there is no change in the rate of exchange), the client will lose money. The reason for this is “the spread”. At any given moment, the amount that will be received in the counter currency when selling a unit of base currency will be lower than the amount of counter currency which is required to purchase a unit of base currency. For instance, the EUR/USD bid/ask currency rates at your bank may be 1.2015/1.3015, representing a spread of 1,000 pips (percentage in points; one pip = 0.0001). Such a rate is much higher than the bid/ask currency rates that online FOREX participants commonly encounter, such as 1.2015/1.2020, with a spread of 5 pips. In general, smaller spreads are better for FOREX participants since they require a smaller movement in exchange rates in order to profit from a trade.

Prices, Quotes and Indications
The price of a currency (in terms of the counter currency), is called “Quote”. There are two kinds of quotes in the FOREX market:

Direct quote: the price for 1 US dollar in terms of the other currency, e.g. – Japanese Yen, Canadian dollar, etc.
Indirect Quote: the price of 1 unit of a currency in terms of US dollars, e.g. – British pound, euro.
The market maker provides the client with a quote. The quote is the price the market maker will honor when the transaction is executed. This is unlike an “indication” by the market maker, which informs the trader about the market price level, but is not the final rate for a transaction.

Cross rates – any quote which is not against the US dollar is called “cross”. For example, GBP / JPY is a cross rate, since it is calculated via the US dollar. Here is how the GBP / JPY is calculated:

GBP / USD = 1.7464
USD / JPY = 112.29;
Therefore: GBP / JPY = 112.29 x 1.7464 = 196.10

Clients must deposit funds as collateral to cover any potential losses from adverse movements in prices. Margin is a “good faith” deposit the client entrusts to the broker prior to initiating an order to guarantee the performance of his/her “side-of-the-trade”. The earnest money which is not in any way a down payment or cost ensures the integrity of every currency trade. Thus, the margin deposit assures the person who “took the other side of the trade”, he/she will be paid; conversely.

Maintenance Margin
Most trading platforms require a “maintenance margin” be deposited by the trader parallel to the margins deposited for actual trades. The main reason for this is to ensure the necessary amount is available in the event of a “gap” or “slippage” in rates. This is also used to cover administrative costs.

The amount of money that should not be impaired by the floating loss at all times, it is the least amount of margin needed to maintain an existing account suffering from adverse movement.

Leverage / Margin System
Clients to be able to trade in the Foreign currency market must meet a certain minimum financial criteria to assure or guarantee the performance of their contracted commitment. By opening a minimum credit line, clients are allowed to trade the full value of the their currency contract which is actually worth 90% to 80% more of their initial capital, thus adding to the tremendous profit potential of the trade. This can create the opportunity to control USD 100, 000 for as less as USD 10,000.

A Spot Transaction
A spot transaction is a straight forward exchange of one currency for another. The spot rate is the current market price, which is also called the “benchmark price”. In a spot FOREX market one can open and close transaction in minutes, hour, or in a day.

Although FOREX trading can lead to very profitable results, there are risks involved. Risks can be identified and calculated.

III. Economic Lingo

IV. FOREX Trading Strategies

V. Technical Indicators

VI. FOREX Glossary


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