The (Foreign Exchange) Forex Trading Market Explained.


Calculating FOREX Profits and Losses

The goal of any online FOREX trading system is making profits and avoiding losses

FOREX currencies are traded in much smaller divisions than cash.  Whereas the smallest division in US cash is the penny ($0.01), US currency can be traded on the FOREX in divisions of $0.0001.  This smallest division is called the pip (short for Price Interest Point – sometimes just called 'points').  Since currencies are traded in large lots of (say) $100,000 - small movements in value can generate substantial profits and losses.  In a lot of US$100,000 one pip is worth $10 so an increase in 40 pips (4/10 of one cent) can generate a profit or loss of $400.

Lot size considerations in an online FOREX trading system

Currencies are traded in lots of various sizes.  The standard lot is 100,000 units of the base currency.  A unit is the currency name e.g. one unit of US dollars is the dollar.  So a standard lot of US currency is worth $100,000.  FOREX trades can have lots of various sizes - a mini lot is 10,000 units, but the most trades are done using standard lots.

Various currencies have different sized pips.  The US dollar is expressed in pips of 0.0001 while the Japanese yen is expressed in pips of 0.01.  The value of a pip depends on the size of a lot and the currency pair traded.  Currency pairs with USD as the quote (second) currency (e.g. CAD/USD) always have a pip value of $10 per standard lot or $1 per mini lot.  A pip value calculator can be used to calculate other currencies.

Order Types

A trader has at his disposal different types of orders to make FOREX trades.  A clear understanding of each type of order is necessary to be a successful FOREX trader.

Market Order – is an order to buy or sell at the current market price.  They can be used to enter or exit a trade.  Market orders should be used with care because in fast-moving markets there may be a difference between the price seen at the time a market order is given and the actual price of the transaction.  This is due to slippage – the amount the market moves in the few seconds between giving an order and having it executed.  Slippage could result in a loss or gain of several pips.

Limit Order – is an order to buy or sell at a certain limit.  They can be used to buy currency below the market price or sell currency above the market price.  When buying, your order is executed when the market falls to your limit order price.  When selling, your order is executed when the market rises to your limit order price.  There is no slippage with limit orders.

Stop Order – is an order to buy above the market or to sell below the market.  They are most commonly used as stop-loss orders to limit losses if the market moves contrary to what the trader expected.  A stop-loss order will sell the currency if the market falls below the point set by the trader.

One Cancels the Other (OCO) – this order is used when placing a limit order and a stop-loss order at the same time.  If either order is executed the other is cancelled, allowing the trader to make a transaction without monitoring the market.  If the market falls, the stop-loss order will be executed, but if the market rises to the level of the limit order, the currency will be sold at a profit.

Example OCO Transaction:

 Buy:  1 standard lot EUR/USD @ 1.3228 = $132,280
 Pip Value: 1 pip = $10
 Stop-Loss: 1.3203
 Limit: 1.3328

This is an order to buy US dollars at 1.3328 and to sell them if they fall to 1.3203 (resulting in a loss of 25 pips or $250) or to sell them if they rise to 1.3328 (resulting in a profit of 100 pips or $1,000).

Here's another example:

The current bid/ask price for US dollars and Canadian dollars is

 USD/CDN 1.2152/57

...meaning you can buy $1 US for 1.2152 CDN or sell 1.2157 CDN for  $1 US.

If you think that the US dollar (USD) is undervalued against the Canadian dollar (CDN) you would buy USD (simultaneously selling CDN) and wait for the US dollar to rise.

This is the transaction:
 Buy USD: 1 standard lot USD/CDN @ 1.2157 = $121,570 CDN
 Pip Value: 1 pip = $10
 Stop-Loss: 1.2147
 Margin: $1,000 (1%)

You are buying US$100,000 and selling CDN$121,570.  Your stop loss order will be executed if the dollar falls below 1.2147, in which case you will lose $100.

However, USD/CDN rises to 1.2192/87.  You can now sell $1 US for 1.2192 CDN or sell 1.2187 CDN for $1 US.

Because you entered the transaction by buying US dollars (buying long), you must now sell US dollars and buy back CDN dollars to realize your profit.

You sell US$100,000 at the current USD/CDN rate of 1.2192, and receive 121,920 CDN for which you originally paid CDN$121,570.  Your profit is $350 Canadian dollars or US$287.19 (350 divided by the current exchange rate of 1.2187).



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Introduction to Online Forex Trading
Current Forex Currency Rates
Forex Trading
How to Get Started In FOREX Trading
FOREX versus Futures Market
FOREX versus Stocks
FOREX Trading Philosophy
Fundamental Analysis In Forex Trading
Forex Technical Analysis - Part 1
Forex Technical Analysis - Part 2
FOREX Trading Strategies
Trading Currencies on Margin
Currency Option Marketplace
FOREX Signals
How to Read FOREX Quotes
Calculating FOREX Profits and Losses
Risks of FOREX Trading
FOREX Training
FOREX Trading Software
FOREX Brokers
FOREX Glossary
Forex Updates and Training
Crash Course in Forex Education
How to Recognize Patterns in Forex Trading Markets
Defining Exotic Currencies and Their Impact on Forex Markets
Defining Trading Trend and Ranges in Forex Trading
Mind Games – The Psychology of Forex Market Trading
Crossing Currency - What’s This Mean to Forex Traders
Money Management Basics for Forex Traders
Choosing Your Forex Broker
Expensive Beginner Forex Trader Mistakes
The Elliott Wave Theory for Forex Markets
Failsafe Facts to Guarantee Failure in Forex Trading
Five No Nonsense Strategies in Forex Trading
Global Expansion and It’s Reaches within the Forex Market
Hedging in the Forex Market
The Important Ways to Keep From Losing in the Forex Markets
An Overview of the Euro’s Performance in the Forex Markets
Six Trading Tips for the Forex Newbie
The Lowdown on Day Trading
Interpreting How Interest Rates Drive the Foreign Exchange Markets
The Basics of the Bollinger Band Technical Indicator in Forex Markets
Relative Strength Analysis in Forex Trading
The Basics on Understanding Forex Options
Forex Charts – What Are They and How Do You Read Them
Interpreting the Future of the Oil Marketplace and How It Affects Forex Trading
Top Five Economic Indicators that Drive Forex Trading
Rules for Trading in Forex Markets
How Does the Japanese Yen Stack Up Against the US Dollar in Forex Markets
Pivot Points in Forex
The Ins and Outs of Trying Out a Forex Demo Account
The Top Currencies to Watch in the Forex Trading Game
Defining Moments Regarding Trading Trends and Ranges with Forex
Top Ten Basic Terms in Forex Trading and Their Definitions
Forex Folklore Investment Myths in the Market
Five Economic Driving Forces that Influence Forex Trading
Day Trading All You Wish You Did Not Have to Know
Time line for Daily Forex Trading When are the Optimum Moments
Forex Relative Strength Analysis
How Forex Quotes Can Influence your Trading Tactics
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