The foreign exchange market, also known as forex, is the world’s largest and most liquid financial market. Trading terms can get confusing, even more so with Forex trading, which has its own technical jargon. But fret not, in this article, we will be introducing basic Forex terms that all traders should know in order to trade with confidence!
Here are the forex terms we will be covering:
1. Currency pair
2. Base currency/Quote currency
4. Bid/Ask price
5. Exchange rate
14. Open/Close position
15. Candlestick chart
16. Carry trade
17. Open order
18. Stop-entry order
19. Take-profit order
20. Stop loss order
21. Market order
22. Limit order
26. Risk management
#1 Currency Pair
A currency pair is the quotation of two different currencies, where one is quoted against the other. A currency pair’s first listed currency is referred to as the base, and the second listed currency—which serves as the benchmark—is known as the quote. It shows the base currency required to be exchanged for one unit.
For example, EUR/USD is a currency pair where the euro (EUR) is the base currency, and the US dollar (USD) is the quote currency.
#2 Base Currency/Quote Currency
The base currency refers to the first currency in the currency pair. It is the currency which is being measured against the value of the second currency, also known as the quote currency.
For example, in a GBP/USD currency pair, the GBP is the base currency, while the USD is the quote currency.
This shows how much USD is needed to buy one GBP.
Leverage is the use of borrowed capital to increase your trade size.
By controlling a large amount with a smaller amount, investors use leverage to magnify their purchasing power (trade size). While this amplifies potential profits, it also increases potential losses.
#4 Bid/Ask Price
The bid price is defined as the maximum price that a buyer is currently willing to pay for a security or asset. Typically, the bid price is lower than the ask price, which is the lowest price that a seller is willing to accept.
#5 Exchange Rate
Exchange rates determine the value of one’s currency when converted into another. Rates constantly change due to the supply and demand of each market which is influenced by a country’s economic performance and political health. While this affects businesses worldwide, it also gives traders opportunities to buy or sell currencies.
Margin is the amount of money a trader must deposit with their broker in order to open a position in the market. The trader essentially makes a deposit to show that they can cover the potential losses.
Pip stands for “point in percentage”, which is a currency pair’s smallest unit of price movement. It is used to determine whether a trade has made a profit or lost money.
An example of a one-pip move is if the price of the EUR/USD currency pair rises from 1.2000 to 1.2001.
All currency pairs typically define a pip as the fourth decimal place, except the Japanese yen, which only has 2 decimal points (e.g. USD/JYP=86.51).
A lot refers to a standardised measure of the amount of a financial instrument that can be traded. The size of a lot depends on the particular market and asset being traded, but generally, a lot represents a specific number of units of the asset. Buying or selling a lot means trading that specific number of units of the asset.
These terms reflect the sentiments of investors regarding the market and its corresponding economic trends. The term “bullish” is used to describe a positive outlook when the market appears favourable and is experiencing an upward trend. On the other hand, “bearish” indicates a negative sentiment towards the market, typically associated with a decline in growth.
Spread is the difference between the bid and ask prices of a security or asset. The bid price is the highest price a buyer is willing to pay for a security, while the asking price is the lowest price a seller is willing to accept.
Resistance is a significant price level that an asset has historically struggled to surpass. It acts as a barrier where sellers tend to be more inclined to sell their holdings, exerting downward pressure on the price. This increased selling activity often makes it challenging for the asset to sustain its upward momentum and break through the resistance level.
A quote refers to the price of an asset that was last traded. In short, it’s the latest price agreed upon which the asset can be traded for.
In forex trading, a position refers to the amount of a particular currency that a trader holds. It represents their current exposure to the market and can be either long (buy) or short (sell). The size and direction of a position depend on a trader’s market view and risk appetite.
When trading CFDs, you have the flexibility to take both long and short positions. A long position involves buying an asset with the expectation that its value will rise, allowing you to profit from the potential appreciation. Conversely, a short position involves aiming to profit from a decline in the price of an asset by selling it first and then buying it back at a lower price. This enables you to benefit from downward market movements.
#14 Open/Close Position
An open position refers to a trade that is still active and has not yet been closed out. This means that the trader still has exposure to the market, and the position may continue to fluctuate in value until it is closed.
A closed position, on the other hand, is a trade that has been completed, meaning that the trader has bought or sold a currency pair and then later sold or bought back the same amount of the same currency pair to close out the position. This can either result in a profit or a loss, depending on the price movements of the currency pair during the time the position was open.
#15 Candlestick Chart
Candlesticks are a visual representation of the size of price fluctuations. Traders use these charts to identify patterns and gauge the near-term direction of prices.
#16 Carry Trade
A carry trade is a trading strategy in which an investor borrows money in a currency with low-interest rates and uses that money to invest in a currency with higher interest rates. The goal of the carry trade is to profit from the interest rate differential between the two currencies.
#17 Open Order
An open order is an instruction given by an investor to a broker to sell or buy a security at a certain price but has not yet been executed yet. In essence, an open order is an order which has yet to be fulfilled. By using open orders, investors will not have to constantly check the market to see if it is moving in their favour.
#18 Stop-Entry Order
A stop-entry order is a type of order where a trader sets a buying price above the current market price or a selling price above the current market price when they anticipate that the price will continue to move in the same direction. It is the opposite of a limit order.
For example, let’s say the EUR/USD currency pair is trading at 1.34, and you want to enter a long position (i.e. buy the currency pair) if the price reaches 1.35. In this case, you can place a stop-entry order to buy at 1.35. This type of order is known as a stop-entry order.
#19 Take-Profit Order
A take-profit (T/P) order is an order placed with instructions to a broker to close a limit order position when the price rises and reaches a point above the purchasing price. This allows traders to capitalise on the rise of the market by closing their position at a more optimal price.
#20 Stop Loss Order
A stop-loss order is a type of order used in trading to limit potential losses by automatically closing a trade at a predetermined price level. When placing a stop-loss order, a trader sets a specific price point at which they want to exit a trade to limit their losses. If the market reaches that price point, the stop-loss order is triggered, and the trader’s position is closed.
#21 Market Order
A market order is a trade order where the execution of the order is done at the best available price in the market, regardless of the limit price specified in the order.
#22 Limit Order
A limit order is a trade order in which the trader specifies a certain price for buying or selling a security to their brokerage rather than accepting the current market price.
Execution refers to the placing and filling of orders. Execution occurs when the order has been fulfilled, not when the order is placed. In Forex trading, there are two types of execution, instant and delayed.
Instant execution happens when the order is placed and filled immediately at the market price, while delayed execution occurs only when the market price reaches a price specified by the trader.
Appreciation refers to the increase in the value of an asset over time. This increase in value can be due to various factors, such as supply and demand, changes in the overall economy, and improvements in the performance of the asset.
For example, in the context of currency trading, appreciation refers to an increase in the value of one currency relative to another currency. When the value of a currency appreciates, it can buy more units of another currency than it previously could. This can result from factors such as a strong economy, positive news or events, or an increase in demand for the currency.
Depreciation, also known as devaluation, is the fall of the value of a currency in the exchange rate when measured against another currency in the floating market. This means that a unit of currency can buy fewer units of another currency than before.
For example, if the exchange rate between the US dollar (USD) and the euro (EUR) is 1 USD = 0.85 EUR, and then it changes to 1 USD = 0.80 EUR, this indicates that the US dollar has depreciated against the euro. In other words, it now takes more US dollars to buy one euro than before.
#26 Risk management
Risk management is the process of identifying, assessing and controlling or mitigating potential risks that could have an adverse impact on an investment or trade. It involves analysing and understanding the potential risks that may arise from different situations and developing strategies to manage or minimise these risks.
This could mean using risk management tools, like setting a stop-loss, to cap the downside risk of a trade.
A portfolio encompasses the assortment of financial securities held by traders in their trading account. It is common for traders to have multiple currency pairs within their portfolio, aiming to diversify and spread their risk. In the context of forex trading, a portfolio may include major, minor, and exotic currency pairs.
Liquidation refers to the process of selling off all assets of a company or individual in order to pay off outstanding debts or obligations. This is typically done when a company or individual is unable to meet its financial obligations and is facing insolvency or bankruptcy.
Volatility is a measure of the speed and magnitude of price movements in a financial asset, index, or market over a given time period. It reflects the degree of uncertainty and risk associated with an investment. Traders and investors use volatility to assess potential risks and to make informed decisions about market entry or exit points.
Slippage refers to the difference between the expected price of a trade and the actual price at which the trade is executed. Slippage could occur due to market volatility or limited liquidity and can be either positive or negative.
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