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If you are new to investing, the world of investments can be both exciting and complex, especially when you venture into the foreign exchange market (Forex). Forex offers a dynamic landscape full of opportunities and the first step towards navigating in this is to understand the basics of currency pairs.
Currency Pairs: What you need to know?
Much like the heart is to your body or the engine is to a car, currency pairs form the heart of Forex trading. These pairs represent the exchange rate between two different currencies. When you see a currency pair, it comes in a specific format such as EUR/USD. In this format, the first currency (EUR) is referred to as the base currency, while the second currency (USD) is the quote currency. This format indicates how much one unit of the base currency is worth in terms of the quote currency. If the quote is 1.2000, it means 1 Euro is equivalent to 1.2 US Dollars.
Drawing parallel to the human body, which consists of a head, torso and legs, currency pairs can also be categorised into 3 main groups: major pairs, minor pairs and exotic pairs. Major pairs involve the most traded currencies globally, including US Dollar, Japanese Yen, British Pound, Swiss Franc, and Canadian Dollar. They generally have higher liquidity and lower volatility.
Minor pairs exclude US Dollar but still include other major currencies. For example EUR/GBP, or AUD/JPY. On the other hand, exotics pairs consist of one major currency and one from a developing economy like USD/SGD or EUR/TRY. These pairs are riskier due to their lower trading volume and higher volatility.
When inquiring about the price of a currency pair, it is quoted as a bid-ask spread. The bid price is the price at which you can sell the base currency, and the ask price is the price at which you can buy the base currency. The difference between the 2 currencies is known as the spread.
As you familiarize yourself with forex trading, you will often hear the term ‘pip’, which stands for ‘percentage in point’. A pip is the smallest price move that a given exchange rate can make, typically equivalent to 0.0001 or 0.01% depending on the currency pairs.
Understanding trading size is equally important. A standard lot is typically 100,000 units of the base currency. Moreover, there are mini lots (10,000 units) or micro lots (1,000 units). This allows more flexible trading based on your investment goals.
Key Factors Influencing Currency Pair Values
Several factors influence currency pair values, including economic indicators, political events, interest rate differentials, and market sentiment, to name a few.
In conclusion, understanding currency pairs is important for anyone who is venturing into the world of forex trading. By having basic knowledge of how currency pairs work, you equip yourself with the foundation to make informed trading decisions. As you navigate your journey into forex trading, remember that a solid understanding of currency pairs is a essential tool in your toolkit.
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