Entering the realm of forex trading can be a hard task, particularly for beginners faced with a barrage of unfamiliar terminology.
Getting a grasp of the basic concepts is crucial for building a strong foundation. Here’s an extensive breakdown of essential terms.
Forex terms must be well known and understood before starting to trade. They include;
1. Currency pairs.
Is the quotation of one currency with the value of another. i.e. USD/EUR contain both the base currency (USD) and quote currency (EUR) for a trader to be able to start trading.
Currencies are always quoted in pairs such as USD/JPY or GBP/USD. Because in every foreign exchange transaction you are simultaneously buying one currency and selling the other.
Example of foreign exchange rate for GBP/USD. (figure down)
The first listed currency to the left of the slash (“/”) is known as the base currency(GBP) while on the right is quote currency (USD).
When buying, the exchange rate tells you how much you have to pay in units of the quote currency to buy ONE unit of the base currency.
In the example above you have to pay 1.5128 US dollars to buy 1 British pound.
When selling, the exchange rate tells you how many units of quote currency you get for selling one unit of base currency.
In the example above you get 1.51258 US dollars when you sell 1 British pound.
If you buy GBP/USD it means that you are buying the base currency while simultaneously selling the quote currency. In simpler words buy GBP, sell USD.
You would buy the pair if you believe the base Currency would appreciate (gain value) relative to the quote currency.
You would sell the pair if you think the base currency will depreciate (lose value) relative to the quote currency.
2. Forex and stoke market.
Forex is the buying and selling of currencies while stoke markets are the buying and selling of shares of a company.
The forex market and stock markets correlates in a way that when the stock market of a country’s economy goes down or up the value of the currency(rate) is interfered with hence affecting forex.
3. Bid, Ask price and Spread.
Bid is the price at which your broker is willing to buy the base currency in exchange for the quote currency.(the available price at which you the trader will sell to the market.)
If you want to sell currency the broker will buy it from you at the bid price. (The broker will put up the price he can buy it at.).
Ask price refers to the lowest price a trader will at least need from the broker to sell the base currency to the broker.
It’s the best available price at which you will buy from the market.
Spread is the difference between the ask price and the bid of the broker.
Spread in the country pair depends on various factors like volatility, liquidity and volume of currency pairs.
Diagrammatic explanation of bid, ask price and spread.
On the EUR/USD quote above the bid price is 1.34568 and the ask price is 1.34588.
If you want to sell EUR, you click sell and you will sell Euros at 1.34568. If you want to buy EUR, you click Buy and you will buy Euros at 1.34588.
To calculate your spread you find you find the difference between the buying and selling price. I.e. 1.34588 -1.34568= 0.00020 the two is the spread and the spread 2 pips therefore it’s a 2 pips spread.
4. Pips and pipettes.
A pip is the unit of measurement to express the change in value between two currencies. For example, if
EUR/USD moves from 1.1050 to 1.1051, that 0.0001 USD rise in value is 1 pip.
A pip is usually the last decimal place of a price quote. Most pair go up to 4 decimal places but there are some exceptions such as the Japanese yen they go out to 2 decimal places.
pipette are formed by currency pairs quoted beyond standard 4 and 2 decimal places to 5 and 3 decimal places by some forex brokers.
They are quoting fractional pips called pipettes. For instance in GBPUSD Below.
If GBP/USD moves from 1.30542 to 1.30543 that 0.00001 USD moves higher is one pippete. How to easily identify a pip or pipette is in the figure below.
The value of a pip is determined by the lot size you use.
If I made a profit of 10 pips and used a lot size of 1.00 that means I made $100 on that trade based on my lot size.
However is someone made the same amount of pips 10, they could have made more or less depending on the lot size they used.
If someone used 10.00 lots and made 10 pips they profit $1000 from the same trade.
5. Lot size
Is the number of currency units you buy. There are; Standard lots, Micro lots,Mini lots, Nano lots based on the size of the lot.
When we are looking at units, think of it as how many shares you buying. Its more like saying am going to buy 100 shares on Facebook stock. Example as in the figure below;
Note that, the value of a pip must be calculated in dollars.
Example on a standard lot which is 100000 units, the volume on that 100000 is 1.00 and the value of that 1.00 volume is $10 a pip.
So for each pip that you make with standard lot you will make 10 $ dollars.
You can have more than 1.00 volume depending on the capital that you have. You can make it 20.00 volume which means its 200$ a pip etc.
6. Leverage.
Is the ratio of the amount of capital used in a transaction to the required security deposit. (margin)
It allows a trader to execute a position of a bigger lots with very little balance. It allows a trader to open large position orders with the balance they have.
It varies dramatically with different brokers ranging from 1:1 to 500:1.
Example.
If you use a leverage of 1: 300 and you had a capital of 1$ you could take a trade worth $300 but remember it a double edge sword. The large leverage the more profit but very volatile.
To open a position of a standard lot in the EUR/USD currency pair, a trader needs to have 120000$ in their account. But using 1: 500 leverage he can open the position with just $ 240 and can control 120000$ worth of position with just $240. But high leverage also means high risk.
Suggested leverage should be at least a 1:300 leverage.
7. Long and short position.
Are trades executed in the forex market.
Long position entering a long position in the forex market implies buying the base currency and selling the quote currency of the pair.
It implies buying the base currency and expecting the base currency to rise in costs as opposed to Quoting currency.
Short position going short position implies selling the base currency and anticipating the base currency to drop in price in contrast to the quote currency. Example;
In a EUR/USD pair, taking a long position means buying the Euro (EUR) and expecting it to rise in price against the dollar while taking a short position means selling the Euro expecting it to drop in value against the dollar.
8. Margin
It’s the amount of money that a trader needs to put forward to open a trade.
When trading forex on margin, you only need to pay a percentage of the full value of the position to open a trade.
It’s the amount of capital the trader should invest to execute a trade .
Margin trading with use of leverage is a very effective way to earn a profit in a short time as trader can execute bigger orders.
But it is to be considered that margin trading with high leverage can also risk trader blowing the account in a short time . If a trader wants to open a position of standard lot i.e. $ 200000, then he should deposit the 1 % margin or 2000$ to execute the trade.
When you open a new margin account with a forex broker, You must deposit a minimum amount with that broker.
The minimum and maximum varies from broker to broker and can be as low as $100,000 and more .
9. Blowing up a forex account.
A blown-up forex account means that the trader has lost all the money in his/her forex trading account. This happens mostly with newbie traders who don’t have adequate knowledge about FOREX trading.
It is common among beginner traders to blow their first ever forex live account. It can said as a process of just learning.
It is common to make mistakes in the beginning years but make sure that you learn from them otherwise you’ll keep repeating those mistakes and losing money.
We can’t expect to make poor trades and be consistently profitable.
There’s no shame in blowing your first Forex account. In fact, it’s quite normal. Many new traders make the mistake of thinking that they can just jump into the market and start making money. But the reality is that Forex trading is a risky business, and it takes time, patience, and discipline to be successful.
If you’re not careful, you can easily lose all of your capital.
So, if you blew your first account, don’t worry. It’s not the end of the world. Just take some time to learn from your mistakes and develop a better trading strategy. With a little bit of effort, you’ll be back on track in no time.
How to recover from blown forex trading account.
Most newbie traders fail in their first year, this is because of; Lack of discipline, cowboy trading, not following the game plan, revenge trading… These are all common reasons as to how traders end up seeing the dreaded margin call. The bright side is that even some of the best traders have hit rock bottom and come back to become consistently profitable traders.
The following steps can help one recover from a blown account;
· Accept your losses.
The first step is to accept that you have blown the account and believe that you will one-time be consistently profitable, Understand that there are risks involved in trading and blowing the account is not ideal and it’s a reality that can happen to any other trader. Look at it as an opportunity to learn, grow and improve as a trader.
· Find out what went wrong.
Now that you’ve accepted the fact that you have lost your hard earned money, it’s time to ask your self where you went wrong.
You’ll most probably find the answer in your trading journal. That is, of course, assuming that you have one and you were disciplined enough to write the details of every single trade you took.
Were you risking way too much? Did you execute your trades according to your trading plan? Do you still think your trading system is right for you? Take a look at what you were doing, examine any change in your trading style, and see what you could’ve done differently.
· Go back to DEMO trading.
Just know that there’s no shame in safely practicing your trading and getting your rhythm back. So set your ego aside – it’ll pay off in the long run!
Remember that the market humbles everyone at some point in time, no matter who they are. Heck, even the pros don’t just dive head-first back into the markets.
A smart and sensible trader knows that he will need to build his confidence before he starts risking his hard-earned money in the unforgiving world of forex trading again.
· Open another LIVE account.
So when you feel that you’re ready to go live again, call up a broker. Open another account with the amount of money you are only willing to lose. I repeat – only trade money that you are willing to lose.
This time around, make sure that you stick to your trading plan like white on rice! You may not see your profits build up right away, but being a disciplined trader is a major victory. Over time, you will see yourself improving and the bottom line will speak for itself.
One last very important thing to keep in mind: Do not be easily discouraged. If you don’t believe in yourself, nobody else will.
It’s up to you to pick yourself up and keep going along your path. Remember that, what don’t kill me can only make me stronger!.
Lastly remember that the will to win, the desire to succeed, the urge to reach your full potential… these are the keys that will unlock the door to personal excellence.
10. Orders.
When you wish to place a trade (a buy or sell) you have the option of having 3 different types of orders
i.e. market order, limit order and stop loss order.
- Market order
Is an order to buy or sell at the best available price. Example;
The bid price for EUR/USD currently at 1.2140 and the ask price is at 1.2142, If you want to buy EUR/USD at the market, then it would be sold to you at a price of 1.2142.
You would click buy and your trading platform would instantly buy order at that exact price.
N.B: depending on the market Conditions, there maybe difference between the price you selected and the final price that is executed on your trading platform.
- Limit order.
It’s an order placed either to buy below the market or sell above the market at a certain price. Example;
EUR/USD is currently trading at 1.2050. Let’s say you want to go short if it reaches 1.2070, you can either sit in front of your monitor and wait for it to hit 1.2070 (at which point you would click a sell market order) or you can sell limit order at 1.2070 (then you could walk away from your computer to walk or rest)
If the price goes up to 1.2070, You trading platform will automatically execute a sell market order at the best available price (robot). You use this type of entry when you believe price will reverse upon hitting the price you specified.
A limit order SELL at a price above the current market price will be executed at a price equal to or more than the price order.
- Stop order.
Is an order placed to buy above the market or sell below the market at a certain price.
For example; GBPUSD is currently trading at 1.5050 and its heading upwards. You believe that price will continue in this direction, if it hits 1.5060 , you can do one of the following;
Sit in front of your computer and buy at a market when it hits 1.5060 or set stop entry order at 1.5060.
11. Bullish and Bearish trend.
Bullish trend refers to the rising of the price in the market .
Bearish trend refers to the falling of price in the market.
The are also called bull and bear trend because bulls often hit upwards with their horns and bears try to hit with their paws down.
A bullish trend is a candlestick chart often made by series of blue or green candles moving rapidly upwards while bearish trend in a candlestick chart is made by series of red or black candles moving downwards quickly.
Trend A trend is a tendency for prices to move in a particular direction over a period. Trends can be long term, short term, upward, downward and even sideways. Success with forex market investments is tied to the investor’s ability to identify trends and position themselves for profitable entry and exit points.
There are 3 types of trends in the forex market, Uptrend, downtrend, consolidation (sideways)
- Uptrend (higher lows) occurs if the market makes a higher high compared to its previous higher high. As long as the previous low has not been broken.
- Downtrend (lower highs) the inverse of Uptrend is true and occurs if the market makes a lower low as compared to the previous lower low.
- Sideways trend (ranging) the price hasn’t moved higher or lower but has moved side ways.
12. Trend lines.
Are probably one of the most common types of technical analysis used by trader If drawn correctly, they can be as accurate as any other method.
Unfortunately, most forex traders don’t draw them correctly or try to make the line fit the market.
In their most basic form, an uptrend line is drawn along the bottom of easily identifiable support areas (valleys).
This is known as an ascending trend line.
In a downtrend, the trend line is drawn along the top of easily identifiable resistance areas (peaks). This is known as a descending trend line.
13. Stop loss and take profit order.
Both refers to signaling the trade when the position of the trade should be closed.
A stop loss order refers to the placing the order at a certain position for the risk a trader is willing to take.
Take profit order means placing the order in a certain position for the profits the trader wants to make.
Stop loss order means protecting the trade executed from further loss by stopping it at a certain price. The order remains even if the trader is not using the trading device. It helps protect the capital of the trader.
If the currency fluctuates or the trader goes against position executed by the trader.
Taking profits or take profit is the opposite of stop order. It means closing the already executed position by taking some profit before further losses.
Even a profitable trade can sometimes turn to a loss, take profit order helps to prevent the trader from committing such a loss by placing a pending order.
Lastly, Remember that understanding these terms can lay the groundwork for comprehending the intricacies of forex trading. Continuous learning and practice are crucial for improving your skills. Remember, exercising caution and avoiding excessive risks are key to success in this field.
