While studying and analyzing Forex, you will come across many terms. Possibility is, some of them you may be completely unaware of. Dear ones, I sorted out and explained the meaning of these terms. For any new term that is not included or for any further clarification on given definitions, you can always comment or mail me. I assume your Forex account currency as US dollar.
- Pip
Lets say exchange rate of USD/CHF is 1.4567. In very next moment it changes to 1.4566. Here we can say the movement in currency pair is 1 pip (1.4567-1.4566 =0.0001). Smart traders, pip is nothing but the change in the fourth decimal of the currency pair, no matter up or down. Only in case of pairs with Japanese Yen, we can see the change of second decimal, as the exchange rate involving Yen is shown only uptill two decimals. E.g. when USD/JPY moves from 120.11 to 120.15, the currency pair movement is 4 pips.
- Pippet
Some Forex Brokers quote currency pair exchange rates till 5 decimal places. E.g. Say USD/CHF exchange rate is 1.45679. This fifth decimal place change is called as Pipette. This is also called as Fractional Pip.
- Base Currency
In any Currency pair, first currency is called as Base currency. In EUR/JPY, Euro is the base currency. When you buy the pair, you are buying Euro and selling Japanese Yen. So, you always buy or sell base currency.
- Quote Currency
The currency on second position in any currency pair is called as Quote currency. In EUR/JPY, Japanese Yen is the Quote currency. Whenever you calculate pip value, it is always in Quote currrency.
- Lot Size
In order to trade in the market, you need to open a position in the market. A buy position or sell position. Lets consider you want to buy a currency pair EUR/USD. But how much you will buy? So there are different lot sizes, out of which you have to choose.
1. Standard Lot - 100000 units
2. Mini Lot - 10000 units
3. Micro Lot - 1000 units
4. Nano Lots - 100 units
Buying 1 standard lot of EUR/USD means you are buying 100000 Euros against US dollars in anticipation that Euro's currency value will increase with respect to US dollar and you will sell it later bagging some profit. Likewise when you sell a mini lot of USD/CHF means you are selling 10000 US dollars to acquire equivalent Swiss francs in anticipation that US dollar will depreciate with respect to Swiss Franc.
- Pip Value
1 pip = Lot size x 0.0001 for currency price quotation upto 4 decimal
1 pip = Lot size x 0.01 for currency price quotation upto 2 decimal
Pip value is always in quote currency and can be converted to US dollar.
1. For any currency pair having four decimal places and US dollar as Quote currency,
e.g. Consider you want to trade a standard lot (100000) of EUR/USD,
Here, USD is quote currency & price quoted upto 4 decimal places.1 pip = 100000 x 0.0001 = $10This means, if you buy a pair, every 1 pip increase in currency value puts $10 in your pocket and every 1 pip decrease in value takes out $10 from your pocket. Spread is not considered for simplicity.
2. For a currency pair involving Japanese Yen.
e.g. Consider you want to trade a standard lot (100000) of USD/JPY,
Here, JPY is quote currency & price quoted upto 2 decimal places.1 pip = 100000 x 0.01 = 1000 YenThis means, if you buy a pair, every 1 pip increase in currency value puts 1000 J.Yen in your pocket and every 1 pip decrease in value takes out 10 J.Yen from your pocket. Spread is not considered for simplicity.
3. For a currency pair where USD is a Base currency.
e.g. Consider you want to trade Standard lot of USD/CHF.
Here, Swiss Franc is Quote currency & price quoted upto 4 decimal places.1 pip = 100000 x 0.0001 = 10 Swiss Franc.This means, if you buy a pair, every 1 pip increase in currency value puts 10 S.Franc in your pocket and every 1 pip decrease in value takes out 10 S.Franc from your pocket. Spread is not considered for simplicity.
Once the pip value is obtained and is not in US dollar, you can very well convert it to US dollar by simple calculation once you know the exchange rate of that currency with US dollar.
- Leverage
By this time you must be wondering if I want to open Standard position in market then from where should I bring $100000 or Euros. If I have it then do I need to trade Forex? Very true. If you have it you may not trade Forex. But here the Leverage comes to our rescue tradelings! Leverage is nothing but the money supplied to you by broker to open a position in market. But since they lend you money, they want some security deposit. This is how they ask 100:1, 200:1,500:1 & so on depending on broker.Leverage 100:1 simply means broker wants 1% as security deposit or in Forex language 'Margin'.Lets say you want to open position as,Currency pair - USD/CHF1 standard Lot - 100000Leverage by broker - 100:1Your Account balance - $5000
So, Margin = standard lot/100 = 100000/100 = $1000Thus once you open a position, broker would set aside $1000 from your account as margin.
For Leverage 200:1, Margin = 100000/200 = $500 for above example.Though Leverage allows you to open big positions with small investment, it may act against you if Risk Factor & Money Management techniques are not applied & your account balance may wash out in no time.
- Spread
The difference in buy and sell price is called as Spread. For any currency pair, price quotation will always be Ask price/Bid price. Say EUR/CHF trading at 1.2313/1.2316. Here, difference in sell and buy price is 0.0003 i.e 3 pips. Hence the spread for EUR/CHF is 3. Different brokers offer different spread values. Spreads could be fixed or variable depending on broker. Fix spread would not change and remain constant all the time but value is more as compared to variable spread. Variable spread changes depending upon market conditions, any major news event etc. It is generally low but can be changed by broker anytime and to higher value whenever major market movement is anticipated.
- Bid
Bid price is the price which trader has to pay to sell a currency pair. Selling of currency pair means selling base currency and buying quote currency. It is the price which Market or broker wants from you, to buy that currency from you. In simple words, Bid is the selling price for you. Say GBP/USD has spread of 3 and trading at 1.5439/1.5442 (Bid/Ask) then 1.5439 is Bid price for you. Bid price is always shown on left side of price quotation.
- Ask
Ask price is the price which trader has to pay to buy a currency pair. It means buying of base currency and selling of quote currency as well. At this price, market or broker is ready to sell you base currency. Simply, ask price is the buying price for you and is always on the right side of price quotation.
- Stop Loss
This is a very important feature in forex & can save you from eroding your account balance in minutes. It is a predetermined point or price at which you exit the trade to cut losses. You can place it any time during trade right at opening or later, BUT it is highly recommended you place stop loss at the opening of the position depending on your risk. The spread also need to be taken into account while placing SL.Not placing stop loss is one of the major mistake done by new traders and eventually suffer to learn how important it is. It helps controlling your risk and hence stress if trade against you.
- Take Profit
Take profit is the price at which you would like to exit your position bagging profit. After analysis you may think that a particular pair would move up for say, 30 pips for sure, Whereas in Forex, there is nothing like 'sure' but only speculation, you would place your TP as 30 pips but adjusted according to your spread.
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