The Forex market is not only one of the most liquid markets. It’s a market that is quite easy to grasp the rules. Here are some examples and explanations of basic rules in Forex.
Basic rules
In Forex, the first currency is always the base currency (e.g. EUR on EUR/USD, GBP on GBP/USD). Standard contracts have a value of 100,000 units in the base currency. Mini contracts have a value of 10,000 units in the base currency. Micro contracts have a value of 1,000 units in the base currency.
Currency pairs with 4 decimal places, e.g., EUR/USD:
Standard contract: € 100,000. Value of one pip (0.0001): $10.
Minimum contract: € 10,000. Value of one pip (0.0001): $1.
Microphone contract: € 1,000. Value of one pip (0.0001): $0.1.
The trader who buys 1 EUR/USD mini contract at 1.1150 and resells it at 1.1151 makes $1.
Currency pairs with two decimal places, e.g., USD/JPY:
Standard contract: $100,000. Value of one pip (0.0001): ¥1,000.
Minimum contract: $10,000. Value of one pip (0.0001): ¥100.
Microphone contract: $ 1,000. Value of one pip (0.0001): ¥10.
The trader who buys one mini USD/JPY contract at 123.16 and resells it at 123.17 makes a profit of ¥100.
Buy and sell
Like most other financial products, currencies are quoted based on Bid and ask prices. The Bid is the price your broker buys back a currency from you. The Ask is the price at which he sells you a currency. From a trader’s perspective, this means that the Bid is the price at which you can sell a currency to your broker. The Ask is the price at which you can buy a currency from your broker. Finding out about Forex market movements is relatively simple, especially over the long term. Fundamental analysis is not necessary, since there are many sources of good quality information.
Example: buy GBP/USD
We believe the British Pound will rise against the US Dollar. This means that we expect to get more USD for the same amount in GBP. To profit from it, we buy GBP/USD to be able to resell later at a price which we hope will be higher.
We buy one standard contract at 1.5270 and thus open our position. Our theory turns out to be correct. In order to close the position, we are selling a standard contract at 1.5320. Our gain amounts to 50 pips (= 1.5320 – 1.5270). That’s $500 (= 50 x $10). Please note: if we had carried out the same operations with a mini contract, the gain would amount to $50 (= 50 x $1); and with a micro contract at $5 (= 50 x $0.1).
Example: short selling EUR/USD
We believe the Euro will fall against the US Dollar. This conclusion usually comes from technical and fundamental analysis to avoid falling victim to a bull trap. This means that we expect to get less USD for the same amount in EUR. To be able to take advantage of this, we sell short EUR/USD to be able to buy back later at a price that we hope will be lower.
We are selling one standard contract at 1.0910 to open our position. Our theory turns out to be correct. In order to close the short sale, we buy a standard contract at 1.0860. Our gain amounts to 50 pips (= 1.0910 – 1.0860). That’s $500 (= 50 x $10). Please note: if we had carried out the same operations with a mini contract, our gain would amount to $50 (= 50 x $1); and with a micro contract at $5 (= 50 x $0.1).