The common terminology in Forex
The foreign exchange, or forex for short, is the world’s largest and most liquid financial market, with a staggering daily trading volume of over $6 trillion making it extremely appealing to investors. Yes, trading forex can be quite an exciting and potentially profitable opportunity for those who know what they are doing, but for those who don’t, it can be an incredibly costly venture.
You see, in the world of currency pairs, markets and profits, there is much to learn, and a mistake in forex can be an expensive one. That is why it is critical to get a good firm grasp of the basics before you start in your pursuit of profit. Over time you’ll be exposing your money to various kinds of risks, but there is one risk you can alleviate right from the start, and that’s your lack of understanding of the terminology used in forex.
Understanding the lingo in forex is crucial, especially when it comes to your overall success. For anyone new to the markets, forex terminology can initially seem a little daunting and somewhat overwhelming to understand, but fear not, that is where we come in.
In this article, we will introduce you to the most commonly used terms in forex to help you get started with a solid foundation for you to build your forex knowledge. By the end, you’ll know your ‘pips’ from your ‘spreads’ and your ‘bulls’ from your ‘bears’, which are all going to play a huge part in how well you fare in the foreign exchange.
First, we start off with a term you will see immediately when becoming a trader, particularly a retail trader, and that’s CFDs. Short for Contracts for Difference, CFDs are a type of financial derivative that allows you to trade (going long or short) on the global markets by speculating on the price movements of the underlying assets without ever taking any physical ownership of them. For information on how to trade forex CFDs, see our guide.
- CFD (Contract for Difference): A contract for difference (CFD) is a popular financial instrument used for trading in the forex market. It is an agreement between a broker (e.g., Eightcap) and you to exchange the difference between the price of an asset at the opening and closing of the trade you place.
Another term you will see at the beginning of your trading journey is a forex account, which you will need to access the markets and make trades. Brokers like Eightcap offer a variety of different types to choose from including demo accounts and standard accounts. Each account has its own advantages, so you should always take your time before deciding which account best suits your needs.
- Forex Accounts: Forex accounts are financial accounts offered by brokers that allow traders to buy and sell currencies in the foreign exchange market. For example, Eightcap offers:
- Demo accounts: Used for practice and to test trading strategies without risking real money.
- Standard accounts: Require a minimum deposit and allow traders to trade with leverage.
- Raw Account
- Standard Account
- See more.
One of the main factors contributing to your trading success is your ability to determine the cost of entering and exiting a trade. This is dependent on your understanding of the bid and ask prices as it helps you to decide optimal points of when to open or close a CFD position, which affects your potential profits.
In all CFD markets, there are two prices given: the buy (or ask) price and the sell (or bid) price. To open a long position, your trade at the buy price. To go short, you trade at the sell price. To close the contract, you do the opposite of what you did when you opened it
- Bid: If you are anticipating the price of an asset to fall, you would want to open a short (sell) position, meaning you accept the bid price.
- Ask: On the other hand, if you are anticipating the price of an asset to rise, you would want to open a long (buy) position in the market, meaning you pay the ask price.
When trading CFDs (contract for difference), you will always need to pay close attention to both the bid and ask prices, as you will need to consider the spread in your PnL (Profit and Loss) calculations. Additionally, the bid and ask prices are subject to market conditions, volatility, and other factors, so you should always keep an eye out on markets before making trading decisions.
- Spread: The spread is the difference between the bid price and the ask price quoted by a broker for an asset. It’s also one of the main trading costs and will vary depending on many factors like market conditions and liquidity. Typically, the better the liquidity, the smaller the spreads, and vice versa.
Another example, alluded to earlier, is the pip (short for “percentage in point”), which represents the smallest price movement in a currency pair. Traders use pips to calculate their profits and losses, making it an essential part of trading.
- Pip: A pip is a unit of measurement used in forex trading to denote the smallest price movement in a currency pair. It stands for “percentage in point” or “price interest point.” For most currency pairs, a pip is equivalent to 0.0001, but for some currency pairs, it can be as low as 0.00001.
Additionally, other important aspects of trading that you need to know are lot size and margin requirements. The lot size is a standardised measurement unit used to determine how many currency units were sold or bought in a single transaction. So whenever you place a trade, it will be quoted in a lot size. Margin requirements, on the other hand, are the smallest amount of account balance required to open a CFD position.
- Lot size: The standardised unit of measurement used to define the size of a trade is the lot size, which also determines the profit or loss a trade will make. The standard lot size of a base currency is 100,000 units, but there are also mini lots (10,000 units) and micro lots (1,000 units).
- Margin: Margin, sometimes referred to as initial margin, is the minimum amount of account balance required to open a CFD position or to keep it running.
Furthermore, understanding the difference between bear and bull markets helps you to develop trading strategies that suit market conditions better. In bear markets, you may opt for short-selling strategies, while in bull markets, long-term buying strategies may be more appropriate.
- Bull Market: A bull market is a rising market and the overall market sentiment is optimistic. In the forex market, a bullish trend is characterised by an upward price movement, which indicates that the buying pressure outweighs the selling pressure.
- Bear Markets: A bear market is a declining one and the overall market sentiment is pessimistic. In the forex market, a bearish trend is characterised by a downward price movement, indicating that the selling pressure is greater than the buying pressure.
That concludes our list of the most commonly used forex terms you should know, we hope you found it helpful. You must always remember where there is a reward, there is risk and a lot of the risk in forex can be down to misunderstanding and human error. However, you can always take the time to brush up on your forex knowledge, as it will help you, in the long run, to succeed in the financial markets. By fully learning these terms, you will become a more effective and competent trader, gaining the necessary confidence it takes to navigate the biggest financial market in the world.
Using this knowledge you can understand the markets better, their conditions and how to operate within them. But always remember, Rome was not built in a day, and the same can be said for your understanding of forex as a whole. Always refer back to this if you are unsure, especially if you think of making a trade.
Risk Warning: Margin trading involves a high level of risk, and may not be suitable for all investors. You should carefully consider your objectives, financial situation, needs and level of experience before entering into any margined transactions with Eightcap, and seek independent advice if necessary. Forex and CFDs are highly leveraged products which mean both gains and losses are magnified. You should only trade in these products if you fully understand the risks involved and can afford losses without adversely affecting your lifestyle (including the risk of losing the entirety of your initial investment). You must assess and consider them carefully before making any decision about using our products or services.
CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. The majority of retail investor accounts lose money when trading CFDs. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.
Eightcap Global Limited regulated by The Securities Commission of The Bahamas (SCB) (SIA-F220).