If you’ve recently stepped into the world of forex trading, or if you’re considering it, then there’s a lot you need to know. Everything can seem complicated at first, but some of the most basic concepts are simple and easy to understand. For example, if you’ve ever traveled overseas and exchanged currency, then you’ve participated in the foreign exchange market. We’ve outlined some of the most basic forex concepts below.
Currency Pairs
If you’re trading stocks, there are literally thousands of options to choose from in worldwide companies. Major currency pairs are a lot more condensed. There are 8 major countries that make up the majority of trading and therefore are considered major currency pairs:
- United States (USD)
- Europe (Germany, France, Italy, and Spain) EUR
- United Kingdom (GBP)
- Japan (JPY)
- Canada (CAD)
- Australia (AUD)
- New Zealand (NZD)
- Switzerland (CHF)
These currencies are paired against another currency, like so: USD/EUR. When you trade in the foreign exchange market, you are actually buying one currency and selling another. This could basically be summed up to say that you are using the proceeds from the first currency that is sold to purchase the second currency. Interest rates and economic data can affect the prices of these pairs.
Any currency pair that doesn’t include the US dollar is considered a minor currency pair. Here are a few examples:
Exotic currency pairs are also available for trading, although they may not be as available through your broker as major and minor currency pairs. Exotics are made up of a major currency and a currency from a developing country. For example:
- EUR/TRY (Euro/Turkish Lira)
- USD/HKD (US dollar/Hong Kong dollar)
- GBP/ZAR (British pound/South African Rand)
Generally, exotic pairs are more volatile instruments because they are attached to some countries that might experience political instability, more government debt, and so on.
Leverage
One of the main benefits of trading forex is the ability to use leverage, which essentially involves borrowing money from your broker in order to make larger trades. If you don’t have a lot of money in your account, this can really increase your investment power. You’re required to put up a certain level of margin to do this in case the trade fails. You’ll also see a lot of different leverage offers out there. Some regulators restrict their maximum leverage cap to 1:30, while others push it to 1:100, 1:200, 1:300, or higher – even up to 1:1000 or more. Do be warned, however, that leverage is often referred to as a “double-edged sword” because of its ability to cause a great gain or a significant loss of money. You’ll always want to stick with smaller leverage until you can handle taking more risk.
What Drives Prices?
There are a few key factors that drive prices in the forex market:
- Inflation rates
- Interest rates
- Country’s current account balance
- Government debt
- Terms of trade
- Political stability
If you aren’t familiar with the ways that these factors can change a currency’s value, be sure to do more research on the subject.
What you Need to Get Started
Becoming a forex trader might seem difficult, but you don’t need much to get started. This is something that anyone can do if they apply themselves and put in the time. Here are the essentials required for trading forex:
- A device (computer, laptop, phone, tablet, etc.) with a working internet connection
- An education (you can get this online for free!)
- A trading account (there are thousands of brokers out there with options for beginners)
- A deposit (some brokers will allow you to open an account with as little as $5)
As you can see, the four things you need to start trading aren’t difficult to acquire. You probably already have a device with a connection, otherwise, you wouldn’t be able to read this article. Most people have at least $5 – $100 they can invest and it’s easy to open a trading account. The part that takes the most time is education, but there are multiple resources online to help with that.
