My first steps in Currency Exchange (forex)
The largest market in the world is the Currency Exchange market, also known as FOREX. As you can image, it has a series of characteristics. they make this market very special.
Forex market products
In the Forex market we can find all kinds of currencies. The number will depend on what our broker offers. Some of the currencies are extremely liquid like the Euro-Dollar and others are not. Like the Dollar-Zloty. So the less liquid ones have higher spreads that make them very unprofitable for small investors like us.
The pairs are quoted against each other. Which means that if a pair is rising it is because the first currency of the name is increasing its value and the second one loses it in front of it.
This detail is important because the pairs are usually highly correlated and, for example, if the dollar lost value against the euro, we could see that there were many chances that it would also face the Swiss franc.
Forex market characteristics
- The Forex market is a decentralized world market, which means that there is not a single place where the trade can be different prices for the same currency pair.
- Forex is an OTC (Over the Counter) market which means that it is not organized, there are no third parties. We will not have an entity that provides us with certain security, since we will be negotiating bilaterally and directly with the intermediary, which makes it even more important to hire a reliable agent to avoid potential debt collectors.
- Forex is the largest and liquid market in the world, so big is that what is transmitted on Wall Street in a month in Forex is marketed in a day.
- This market is open 24 hours a day from Monday to Friday, starting in Spain at 11 p.m. M. On Sunday and ending on Friday at 10 p.m. M.
- The movement of assets in this market is characterized not by monetary points but by points, which I will explain in the next section.
What is a pip ?
The pip is the unit of measurement of the Forex, in most pairs of currencies it is the fourth decimal place (less in the pairs with the Japanese Yen in which the pip is the second decimal). Therefore, if the euro-dollar is at 1.09291 and falls to 1.09180 it will have fallen 11 pips. This is essential to understand, since winning or losing our money will be given by the movement of those points.
Nomenclature of currency pairs
- Euro – EUR
- US Dollar – USD
- Pound sterling – GBP
- Japanese Yen – JPY
- Mexican peso – MXN
- Swiss franc – CHF
- Australian dollar – AUD
- Canadian dollar – CAD
- Chinese Yuan – CNH
The way to express the nomenclature in pairs will be for example (bars are sometimes omitted):
- EUR / USD: the euro against the dollar.
- EUR / GBP: the euro against the pound.
- USD / CNH: the dollar against the yuan.
Operate in Forex
The way of operating is simple, having the option of entering the market with lots, minilotes or microlotes depending on the capital that we manage. The lot will be the equivalent to the contract in the futures market or CFD’s.
If we take the benefit of the example that I put before, where 11 pips were obtained, we can transform that measure into monetary units easily using the table. Therefore, 11 pips by far would be 110 dollars (11 * 10), in a minilote it would be 11 dollars (11 * 1) and one microlote would be 1.1 dollars (11 * 0.1).
Knowing the nominal value of the transaction would help us to know the leverage of the same with respect to the capital of our account:
Leverage = (nominal operation) / (account balance)
If we have bought a large amount of EUR / USD and we have 1,000 euros in the account, the leverage will be 100,000 / 1,000 = 100, which is read as a leverage from 1 to 100, so for every euro we have in our account what we will move 100 in the market. It will also allow us to know if we have an excess of leverage and if we assume too many risks in our operations.
One last thing that we will have to know is that when opening a position in Forex we will retain a money as collateral, in this way we will not have to deposit 100% of the nominal value of the transaction, but only a small part. This will allow us to move much more money in the market than our account allows and win / lose more easily.
How to access the forex market?
As I indicated before, to access the forex market we have to do it through a Forex agent. Trading in this market usually has the spread as its sole commission, since it is usually very normal that there are no other commissions involved, such as “opening and closing positions”.
The spread is the difference between the purchase price and the selling price of a currency pair and depends on the intermediary, which generally increases this margin if the currency pair is not very liquid. Therefore, we can see how by the mere fact of entering a currency pair, the spread will cause us to start with losses (the higher the margin, the greater these losses will be), for example, if we want to buy a lot in the market. The EUR / USD and the spread are 2 pips, we would start losing 20 dollars, which would reduce our possible final benefits and condition our operations.
Therefore, it is important to choose an intermediary with low margins and offering low guarantees, as in the case of FXTM that offers minimum margins from 1 pip and is authorized by the FCA. If we go to your website, we can find all the data of the spreads we need, for example, in the EUR / USD, the minimum margin will be 1 point.