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What is forex?

Forex is short for foreign exchange, the market on which currencies are traded. Whenever we want to travel abroad or do business with a company in another part of the world, we need to change our own currency into the currency of the other country. The currencies are always traded in pairs, which means the currency of one country is quoted against another, such as USD/JPY (America / Japan).

The forex market is open twenty four hours a day except for Saturdays and Sundays. The trading week starts on Sunday evening and closes on Friday night. First Australia opens, then Japan. When they are about to close, Europe and the UK are taking over and a few hours later the US opens, after which Australia opens again.

Depending on the time, you see heavy trading in the currency pairs of the markets that are open. During the Tokyo session, there's a lot of activity in the USD/JPY pair. During the London session, we see most activity in GBP/USD, EUR/USD and USD/JPY. It's always best to trade the currencies with the highest volume.

No central exchange

The forex market doesn't have a centralized exchange such as the stock exchange on Wall Street. Some major international banks manage the transactions and set the exchange rates in their interbank trading of currencies. We are talking about institutions like UBS, Citigroup, Deutsche Bank, HSBC, Goldman Sachs, Merril Lynch, JP Morgan Chase, RBS, Barclay's,... Together they are some form of a central exchange on which the prices are made (referred to as the 'interbank liquidity pool).

Retail brokers use a very expensive data feed from this interbank market and then show a quote on their own platform: the bid price if you want to sell a position and the ask price if you want to buy. The broker can already make money from the difference in the price on the interbank market and the price they are quoting on their platform. So as a retail trader you will never be able to trade the prices that are quoted on the interbank market. And different retail forex brokers will all have slightly different bid and ask prices.

Forex is not easy

Forex trading is not easy. Don't believe all the systems that promise that it's easy to make a fast buck. It's not. Ofcourse it's very easy to get started, you only need a computer or smartphone and a credit card to fund an account. You can easily choose to open a long or short trade, but making consistent profits is not easy. It cannot be done without a lot of study and practice. Only when you've got a lot of experience, you'll be able to 'feel' the markets and make good decisions. The use of proper money management and position sizing will make sure that you won't lose all the money on your trading account.

Contract sizes

A standard contract is called 'a lot'. Let's take the EUR/USD as example.

  • One lot: 100,000 EUR - 1 pip equals $10
  • One mini lot: 10,000 EUR - 1 pip equals $1
  • One micro lot: 1,000 EUR - 1 pip equals $0.10

Micro lots are a great way to start trading when you're a complete rookie. Even with a small account you can start to trade with real money.

To calculate the value of 1 pip, consider the following calculation:
100 000 EUR x 1.1998 = 119,980 dollar
100 000 EUR x 1.1999 = 119,990 dollar
Value of 1 pip = 10 dollars.

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