How to trade Forex
Currency pairs and rates
All currencies in forex trading are quoted in pairs, one against another. Their names are given as a three letter abbreviation known as ISO code, where the first two letters represent the country and the third one is the name of the currency.
Depending on how commonly they are traded, currencies can be divided into three categories:
- The most traded ones are usually referred as to majors and include the US dollar, the euro, the Great Britain pound, the Japanese yen, the Canadian dollar, the Swiss franc, the Australian dollar and the New Zealand dollar. Major pairs involve the US dollar and another currency from the list above, for example: EURUSD, USDJPY, USDCHF
- Cross pairs comprise of two major currencies neither of which is the USD dollar, for example: EURGBP, EURCHF, EURJPY, GBPCAD, GBPAUD and CHFJPY.
- Exotic pairs consist of a major currency and another less traded one, for instance EURTRY, USDSEK, USDDKK, USDHDK, USDSDG. Exotics tend to be less liquid and to have less tight spreads.
Currency rate always represents the value of the base (first) currency expressed in the quote (second) currency. In Forex there are two prices given - Bid and Ask- the former shows how much of the quote currency is required to sell 1 unit of the base currency and the later represents how much will be required to buy it. Ask price is higher than bid. The difference between two prices is referred as to spread, which is usually measured in pips or points.
Previously, when only 4 digit precision was available, pip, or percentage in point, was the smallest unit to measure price fluctuations. With the introduction of more accurate 5 digit precision pricing the smallest unit of price change is called point, however 1 pip is still calculated by 4th digit.
For example, if Bid price is 1.11443 and Ask price equals 1.11449, spread is 0.6 pips or 6 points.
Direction wise, there are two types of trades:
- Buy or long positions are opened at ask price and closed at bid price;
- Sell or short positions are opened at bid and closed at ask.
Each of those can be opened either as a market or as a pending order:
Opened at current Ask price
Opened at a predefined Ask price, which is above the current one
Opened when the Ask price reaches the order level; the current ask is below this price
Opened at current Bid price
Opened at a predefined Bid price, which is below than the current one.
Opened at a predefined Bid price, which is above the current one
Closing order is always opposite to the opening one, that is, by closing a long (buy) position you sell the amount back and vise versa - when you close a short (sell) position, you buy the amount you previously sold.
A position can either be closed manually at the current market rate or when a certain price level is reached, through Stop Loss and Take Profit orders.
- Stop loss is intended to limit the losses and is set above the open price for short positions and below the open price for long positions.
- Take profit allows you to close a position when a certain profit is gained. Take profit level is below current Ask price for a short position and above current Bid price for a long position.
In order to gain profit you need to close long positions when the price goes up and close short position when the price goes down.
Leverage, volume, required margin
To open a position you need to have a certain amount in your balance, which is commonly referred as to required margin or just margin. The amount depends on the trading tool, volume and leverage.
- Trading tool is basically anything you can trade with, including currency pairs, spot metals, oil or indices.
- Volume is the amount you buy or sell measured in lots. 1 standard lot equals 100 000 units of the base currency. Depending on your balance and account type you can also trade mini lots (0.1) and micro lots (0.01). Volume defines the pip price, that is, the higher your volume is, the more significant each price movement will be. For example, pip price for EURUSD 1 lot is 10 USD, for EURUSD 0.5 lot is 5 USD. You can use this tool to calculate pip price for any position.
- Leverage is a virtual credit provided by the company. The higher your leverage is, the lower marginal requirements will be. For example, when you use no leverage (ratio 1:1), you will need 100 000 EUR to open 1 lot of EURUSD; if your account leverage is 1:200, only 500 EUR will be required. The maximum leverage OctaFX offers is 1:500, that is, you will need only 200 EUR to open 1 lot.
Note that if you have a USD account, the required margin will be calculated as follows:
(Current price × Volume in lots × 100 000 units) / leverage
For example, if your leverage is 1:200 and you open 0.5 lot EURUSD order at 1.12931, required margin is
(1.12931 × 0.5 lots × 100 000 units) / 200 = 282.33 USD
Required margin is always calculated automatically by the platform. To check how much approximately will be required to open a certain position, you can use our Forex Calculator.
Balance, equity, free margin, margin level
When you open a position, note that your balance remains intact. In fact, it only includes deposits, withdrawals and closed trades.
The amount of required margin will be deducted from “Free margin” field, which also comprises of your floating profit or loss and deposit bonus if you claimed one. Free margin is the funds you can open positions with. Note that when you open a hedge order with the same volume, no margin will be required; however, if your free margin is negative, you will not be able to open an opposite position.
Free margin = balance - required margin + floating profit / loss (+bonus)
Another value affected by your profit or loss is equity, which is calculated is follows:
Equity = Balance + floating profit / loss (+bonus)
Equity is important because it, along with the required margin, determines your margin level:
Margin level = Equity / required margin × 100%
If you margin level falls under 15%, your open positions will be mandatory closed starting with the trade that has the highest floating loss.
Balance, equity, free margin and margin level are calculated automatically by the platform and available anytime in the “Trade tab”.
How to start trading
If you are not familiar with the trading platform, make sure to check our Manuals section for detailed instructions.
More information on how the forex market works, what tools and techniques you can employ to predict the direction of the prices or strategies you can apply is available in the Forex Basics section.
If you have any questions regarding the market, OctaFX website or trading conditions you can check our elaborate and comprehensive FAQ.
Whenever you encounter an unfamiliar term, word or market phenomena, you can check its definition and description in the Forex Glossary.
Our award-winning Customer Service is always glad to answer any questions you have and is available 24/5.