The basics of forex trading

The basics of forex trading

Forex trading is the process of buying a currency pair (for example, AUDUSD) that represents the ratio between the two currencies. There are many reasons why that ratio or price will move up or down: it could be due to fundamental/economic factors or it could be due to an important level on a chart determined by technical analysis.

The forex market trades almost round the clock, from Monday morning in Asia till Friday afternoon in New York (Saturday morning in Asia). Individual (also known as retail) traders normally trade the 'spot' market on an over-the-counter or off-exchange basis. Trades are matched on various platforms that major players, such as banks, participate in.

In order to truly understand what you are doing when you trade forex, it is important to understand the technicalities of placing a trade. Try not to place a trade until you understand the paragraph below – if you need help understanding it, please call one of our Relationship Managers.

The first currency in a pair is called the base currency while the second currency is called the quote currency. For the AUDUSD pair, the base currency would be the Australian Dollar (AUD), while the quote currency would be the United States Dollar (USD). When we place an order to buy or sell this pair, we buy (or sell) the base currency while simultaneously selling (or buying) the equivalent amount of quote currency. For example, an order to buy 100,000 (or 1 lot) AUDUSD is actually buying 100,000 AUD and selling 80,000 USD (if we assume the price is 0.8000). When we exit the trade we sell those same 100,000 AUD and buy back whatever amount of USD we need to at the current price. The difference between the amount of USD we sold and the amount we bought back is the profit or loss, which is always denominated in the quote currency – the USD in this case.

If you trade forex, you will hear people talking about 'sessions' – either the Asian, European or US sessions. This is just a way of breaking up the 24 hour trading day into chunks – the Asian session and the early part of the European session (when London wakes up) is the time when we will be watching the markets the most. Unfortunately, the 24 hour nature of markets means those in Asia will miss quite a bit of action while we sleep. Currently most forex trading occurs in London, so liquidity and price moves are normally strongest during the European session. The Asian session can often seem subdued in comparison, though this is changing as Chinese traders increasingly participate.

The wonderful thing about forex trading is we can trade an upward price move just as easily as a downward move. We do not need to 'borrow shares' to short sell, like we have to in the stock market.

Another word you will hear a lot in forex trading is 'pips'. This is the last two digits in a currency pair. If we are talking about USDJPY for example, a move from 120.00 to 120.05 would be a 5 pip move. If we are looking at AUDUSD, a move from 0.7590 to 0.7599 would be 9 pips.

If you decide to open an FX account, you will need to fund your account with enough 'margin' to absorb any losses while you are learning to trade. With the use of leverage, most brokers allow a position size that can be hundreds of times bigger than your margin. This does not mean you should trade with that much leverage. Leverage can be a double-edged sword and can mean a new trader's account disappears very quickly if they do not trade in a disciplined manner.

Forex trading can be a truly rewarding experience but there is no doubt it presents many challenges for beginners and experts alike. Many of those challenges are psychological – you will no doubt battle your emotions of greed, fear and frustration. If you enjoy the financial markets and have a general interest in analysing price action on charts, then forex trading could be a great opportunity to make money in the long run. 

To learn more about the exciting world of forex trading, please contact one of our friendly Relationship Managers on 1300 366 145 during AEST business hours.

Complex product warning

This article contains information about foreign exchange contracts, which are considered complex financial products. Please click here to read ASIC's foreign exchange trading article before considering an investment in foreign exchange contracts. 
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