8 Key Forex Trading Terms To Familiarise Yourself With
Starting out with forex trading can be a little overwhelming. There’s a huge amount of information to take on board and a lot of industry terms and jargon to get to grips with – which is why so many people fail at the first hurdle.
But if you persevere, put the hard work in and really dedicate yourself to the fine art of trading, within a few months you’ll find that it all starts to click and you start seeing more consistent wins.
To help you pursue your ambitions as a top forex trader, here are some of the key trading terms you’re sure to encounter on your first foray into forex.
Hopefully, this glossary should help you gain a clearer picture of what’s involved and what you need to do in order to enjoy a lucrative career as a professional trading expert.
There are around 200 different currencies in circulation around the world and traders work to speculate on how each of these will perform in the marketplace using their own analysis and research. Trading is based on how one currency performs in relation to another.
When you first start trading, you’ll see that these currencies come in pairs, all of which are categorised into three main groups.
Major pairs are those that contain USD as either the base or counter currency and either EUR, GPB, CAD, CHF, AUD, JPY and NZD.
Cross pairs are classified as any two major currencies that don’t have USD as the base or counter currency. These are viewed as being more volatile in nature than major pairs.
And exotic pairs are simply those lesser known currencies in the world – and these have the potential to be extremely volatile, so should perhaps be approached with caution, particularly when you’re first starting out.
It can be helpful to think of the currency pair as a single unit, even though your trade will involve the simultaneous purchase of one and the sale of another. When you buy, you purchase the base currency and you sell the quote currency. When you sell, you sell the base currency and get the quote currency in return.
When trading currency pairs, you’re selling one to buy another, with prices affected by economic factors like GDP, economic growth and interest rates.
Leverage refers to the money you borrow (known as capital) to invest in your currencies. It’s very common practice in forex trading and it allows you to trade larger positions, making it possible for you to amplify your returns if exchange rates are favourable.
However, it’s important to note that leverage can also amplify your losses, so it’s vital that you gain a deep understanding of this and how it works so you can work risk management into your trading strategy and help keep losses to a minimum.
Stop-loss orders come into their own in this regard, allowing you to keep potential losses under control. These are trade orders with your broker that ensure you exit a position at a particular price level so you can put a cap on any losses on your trades.
The acronym ‘pip’ stands for percentage in point and it’s essentially just a unit of measurement that’s used to reflect the change in value between two currencies. It’s essential that you understand pips and how they work before you trade, as it will affect the decisions you make.
Exchange rate fluctuations are measured by these pips. The majority of currency pairs are quoted to four decimal points, with the smallest whole unit change set as one pip. Pip value will depend on the currency pair in question, as well as the exchange rate and the trade value.
Bullish & Bearish Trends
You’re sure to come across the terms ‘bull market’ and ‘bear market’ very early on in your trading journey and identifying these trends can help you work out what direction you want to trade in.
When markets are bullish, it means that prices are on the rise, whereas if a market is bearish it means the prices are starting to fall. Note, however, that upward market trends (bulls!) need to see price climb higher continuously for a long period of time to be considered bullish.
You may see bearish markets register a few days of upswings, but this isn’t usually significant and won’t typically indicate a move towards a bullish market. Similarly, a few days of falling prices won’t generally signify that a market is becoming bearish… so stay the course, stick to your guns and ride it out to see what happens.
In terms of trading, it’s perhaps advisable to short sell in a bear market as prices start to fall. If you’re buying into a bull market, be aware of your loss risks, since short selling a bear market means that you run the risk of losing big if prices continue to move against you.
As you might expect, day trading in forex involves buying and selling currencies within just one trading day, closing out positions at the end of the day and starting up again the following day.
If you want to be a day trader, you’ll need to make sure that you’ve got the motivation and dedication required to buy and sell multiple currency pairs in a short space of time and you’ll need to be able to make decisions quickly.
Trading has always carried with it an element of risk, but the advent of the internet means that risk management must be a top priority for forex traders, because transactions take place at lightning quick speeds all over the world.
It’s also worth noting that the adrenaline rush you get from trading when you start turning profits can feel almost addictive, which is where the trouble can start.
As such, it’s vital that you implement a robust risk management strategy and include it in your plans from the outset so you can protect yourself and ensure that you don’t make any risky trades based on your emotional state.
The first step to getting risk management right is to work out what the odds are of your trades being successful. In order to do this, you’ll need to understand how the markets work and have carried out in-depth analysis to ensure that the decisions you make are grounded in fact.
Another key point for risk management is to ensure that you have put measures in place that allow you to control the risk you’re taking. You need to have a cut-out point in mind where you feel happy to accept the potential losses.
If the loss in question would be too much for you to bear, it’s essential that you don’t trade so you can keep your stress levels in check and ensure that you’re able to be objective in your decision-making.
Going Long/Going Short
Don’t panic if you hear people using the phrases ‘going long’ or ‘going short’. All this means is that they’re about to buy (going long), or they’re about to sell (going short).
If you think that the price of your asset will rise, you can go long, speculating that the base currency will strengthen against the quote currency. And you’ll go short if you expect that asset prices will drop, speculating that the base currency will weaken against the quote currency. That’s it!
Look out for buy signals if you want to enter long positions, such as when a currency drops to a level of support. This refers to an area on a chart that the price has dropped to but which hasn’t yet broken below.
Theoretically, support is the price level at which buying power will be strong enough to stop prices from falling even more. As prices get closer to this level, they get cheaper – which encourages buyer action, with traders taking advantage of better deals. Sellers will be less likely to sell, however, which will help stop prices from falling below the level of support.
If you want to enter a short position, look out for sell signals, such as when the underlying currency price reaches a level of resistance. This is a price level that the underlying currency is struggling to break above. Here, selling power is strong enough to stop the price from rising above a certain point.
In theory, the idea is that as the price gets closer to this level of resistance, it becomes more expensive and this means sellers will be more likely to sell. Buyers, meanwhile, will be less likely to buy, which will stop prices from rising above the level of resistance.
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