Forex: terms and terminology

Foreign exchange (Forex or FX) markets are a popular destination for traders. There is plenty of volatility and plenty of liquidity, which creates the price action on which traders thrive. Once you have an idea of the various market influences and trading tools for Forex, it may be helpful to get to know some of the forex terminology.

• Currency pair – means the two currencies traded e.g. Dollar/Yen, Sterling/Euro. There are around 180 recognised currency pairs. The first currency in the pair is known as the base currency and the second as the term currency. So if USD/JPY = 113.68, it means that each US Dollar is worth 113.68 Japanese Yen.
• Major pairs versus cross pairs – major pairs usually include the US Dollar. These are the most widely traded and are often a good place for novice investors to start. Cross pairs are those on less-traded currencies and can be less liquid. In practice, cross pairs are any outside the big four of Yen, Dollar, Euro and Sterling and will still include major currencies such as the Hong Kong Dollar or Swedish Krona.
• PIP (Percentage in point) – in forex, the smallest increment that an exchange rate can move up or down. This is usually the fourth decimal point but will be different for each currency pair.
• Leverage – borrowing to take greater exposure in a trade, which will magnify both gains and losses. Leverage in forex is usually done through CFDs (contracts for differences) trading and may require margin payments.
• Exchange rate – shows the price of the base currency, in relation to the second (term) currency. So if Sterling/USD is 1.4, one pound costs $1.4.
• Bid/ask spread – every currency pair will have two quotes, a bid and an ask price. The bid price is the price at which buyers are willing to buy and the ask price that at which sellers are willing to sell. The bit in between is the forex spread. This is often how brokers make their money.
• Going long/short – if you go long a currency, you are positioned to profit if it rises relative to the other currency in the pair. If you go short a currency, you are positioned to profit if it falls. Short selling is generally riskier than buying long. If you buy long and you get it wrong, the price can only go to zero, so you can only lose what you put in (unless you are trading on leverage). If you go short, however, the price can rise infinitely – at least in theory – so losses are unlimited. This is why many platforms require you to put stop losses on short trades.
• Stop losses - automated trades which protect your position by limiting your losses when the price hits a set threshold. ‘Take profits’ do the same, but in the opposite direction, automatically selling once you’ve made a certain level of profit. In each case, the trader sets the level they want to use.
• Support and resistance levels – currencies have patterns, which can help guide when to buy and sell. By looking at the historic performance of a currency pair, traders can determine when they may hit support level (low) or resistance level (high). This can help decide when to buy and sell. Extraordinary events can see currencies break out of normal trading patterns, but these tend to be the exception.
• Bullish/bearish – describes whether you are positive or negative on a currency. Bullish means you expect a currency to rise relative to another and would position yourself accordingly, while bearish means you expect it to fall.
• Lot size – your position size. It denotes the number of currency units that you buy and sell. When you place your order, it will either be quoted in lots or in the actual currency unit. Lot sizes are usually 100,000 and are converted to get the PIP size. For example, USD/JPY at an exchange rate of 113.68 (.01 / 113.68) x 100,000 = $8.80 per PIP.

Forex terminology can seem like alphabet soup to those unfamiliar with it, but the underlying concepts are usually straightforward. If you’re ready to start trading forex you can find the trading tools and resources you need on the Fineco platform, including leveraged trading options and automatic orders such as stop loss and take profits to help you manage your risks.