Getting Started
You know the advantages of trading forex, and you are excited to start trading.
Now you need to learn what this market is all about. How does it work?
What makes currency pairs move up and down? Most importantly, how can you make money trading forex?
Every successful forex investor begins with a solid foundation of knowledge
upon which to build. Let's start with currency pairs - the building blocks of the forex market - and
how you will be using them in your trading.
In this first section, we will explain the following to get you ready to place your first trade:
Currencies Come in Pairs
Everything is relative in the forex market. The euro, by itself, is neither strong nor weak.
The same holds true for the U.S. dollar. By itself, it is neither strong nor weak.
Only when you compare two currencies together can you determine how strong or weak each
currency is in relation to the other currency.
For example, the euro could be getting stronger compared to the
U.S. dollar. However, the euro could also be getting weaker compared
to the British pound at the same time.
Currencies always trade in pairs. You never simply buy the euro or
sell the U.S. dollar. You trade them as a pair. If you believe the
euro is gaining strength compared to the U.S. dollar, you buy euros
and sell U.S. dollars at the same time. If you believe the U.S. dollar
is gaining strength compared to the euro, you buy U.S. dollars and sell
euros at the same time. You always buy the stronger currency and sell the weaker currency.
Currency pairs are typically divided into the following three major groups:
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Major Currency Pairs |
Most forex investors begin by investing in the major currency pairs,
or the majors. The majors are those currency pairs that are comprised
of the most important currency in the global markets - the U.S. dollar (USD) - crossed
with one of seven other globally significant currencies - the euro (EUR),
the Great British pound (GBP), the Swiss franc (CHF), the Japanese yen (JPY),
the Canadian dollar (CAD), the Australian dollar (AUD) and the New Zealand dollar (NZD).
Take some time to learn the following major currency pairs because you will most likely be using them extensively:
| EUR/USD | (Euro / U.S. dollar) |
| GBP/USD | (British pound / U.S. dollar) |
| USD/CHF | (U.S. dollar / Swiss franc) |
| USD/JPY | (U.S. dollar / Japanese yen) |
| USD/CAD | (U.S. dollar / Canadian dollar) |
| AUD/USD | (Australian dollar / U.S. dollar) |
| NZD/USD | (New Zealand dollar / U.S. dollar) |
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Extra material |
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The major currency pairs also have nicknames that many traders use when they are referring to them.
| EUR/USD | Euro |
| GBP/USD | Cable |
| USD/CHF | Swissie |
| USD/JPY | Yen |
| USD/CAD | Loonie |
| AUD/USD | Aussie |
| NZD/USD | Kiwi |
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Exotic Currency Pairs |
The exotic currency pairs, or the exotics, are the currency pairs that are comprised
of the most important currency in the global markets - the U.S. dollar (USD) - crossed
with any currency that is not considered a major currency. Exotic currencies - like the
Swedish krone (SEK), the South African rand (ZAR), or the Mexican peso (MXN) are called
exotic because they are associated with illiquid currencies that might not be available in a standard trading account.
Exotic currencies are usually lightly traded and have large bid/ask spreads. However, many
so-called "exotic" currencies are becoming more popular and more and more investors are trading them.
Take a look at the following list of exotic currency pairs because you may be
interested in diversifying your forex portfolio with a few uncorrelated currency pairs:
| USD/SEK | (U.S. dollar / Swedish krone) |
| USD/NOK | (U.S. dollar / Norwegian krone) |
| USD/DKK | (U.S. dollar / Danish krone) |
| USD/HKD | (U.S. dollar / Hong Kong dollar) |
| USD/ZAR | (U.S. dollar / South African rand) |
| USD/THB | (U.S. dollar / Thai baht) |
| USD/SGD | (U.S. dollar / Singapore dollar) |
| USD/MXN | (U.S. dollar / Mexican peso) |
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Currency Crosses |
Currency crosses, or the crosses, are the currency pairs that are comprised
of any two currencies - so long as neither of them is not the U.S.
dollar (USD). The euro (EUR) paired with the British pound (GBP) or the
Australian dollar (AUD) paired with the Japanese yen (JPY) would be considered currency crosses.
The following is a list of some of the more popular currency crosses:
| GBP/JPY | (British pound / Japanese yen) |
| EUR/GBP | (Euro / British pound) |
| AUD/JPY | (Australian dollar / Japanese yen) |
| EUR/CAD | (Euro / Canadian dollar) |
| CAD/JPY | (Canadian dollar / Japanese yen) |
Trading Currency Pairs
Investors, just like you, make money every day by trading currency pairs.
By determining what is going to happen to a currency pair in the future,
investors can act today to take advantage of coming price movements.
Currency pairs can do one of the following three things:
- They can go up
- They can go down
- They can go sideways
Before you can determine if a currency pair is going to be going up,
down or sideways, however, you need to determine which currency in the
pair is getting stronger and which currency is getting weaker, compared
to the other currency. For instance, if you are looking at the EUR/USD
(euro / U.S. dollar) pair, you have to decide if the euro is getting
stronger than the U.S. dollar or if the U.S. dollar is getting stronger than the euro.
Note: The first currency listed in the currency pair is called the base
currency and the second currency listed in the currency pair is called
the quote currency. When you look at the price of a currency pair, it
tells you how many of the quote currency it would take to buy one unit of the base currency.
If the base currency is strengthening against the quote currency, the
currency pair will be moving up. If the quote currency is strengthening
against the base currency, the currency pair will be moving down. If
the base currency and the quote currency are equally strong, the currency pair will be moving sideways.
The following is a quick reference to help you remember which way a currency pair will be moving:
| Base > Quote = Up |
| Base < Quote = Down |
| Base = Quote = Sideways |
Once you have decided which way the currency pair is going to move, you can place
your trade. When trading forex, you can do one of the following three things:
- You can buy the currency pair
- You can sell the currency pair
- You can do nothing
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Learning Reinforcement Exercise |
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Match the following scenarios to the appropriate answer:
If the U.S. dollar is gaining strength and the other currency in
the pair remains static, in which direction should the following currency pairs be moving?
| EUR/USD | Down |
| USD/CHF | Up |
| USD/JPY | Up |
| GBP/USD | Down |
You are looking at a chart of the AUD/USD.
- Which currency is strengthening during the time period identified by arrow "A"?
- Which currency is strengthening during the time period identified by arrow "B"?
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Buying a Currency Pair |
You can make money trading the forex if you buy a currency pair when
the first currency in the currency pair (the base currency) is strengthening
compared to the second currency in the currency pair (the quote currency).
Entering the trade - Buying a currency pair is as simple as clicking the "Buy" button in your trading station.
While all you have to do is click a button, knowing what happens when you
click that button is extremely important. However, you don't have to worry about
the technicalities right now. You will learn what happens behind the scenes shortly when you learn about trading on margin.
Exiting the trade - Buying a currency pair is only the first
step in the trading process. To complete your trade and take your profits, or
losses, you have to exit your trade. To exit a trade, you simply have to do the
opposite of whatever you did to enter the trade. If you bought a currency pair
to enter the trade, you must sell that same currency pair to exit the trade.
For example, if you buy the EUR/USD to enter the trade, you must sell the EUR/USD to exit that trade.
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Selling a Currency Pair |
You can make money trading the forex if you sell a currency pair when the
second currency in the currency pair (the quote currency) is strengthening
compared to the first currency in the currency pair (the base currency).
Entering the trade - Selling a currency pair is as simple as clicking the "Sell" button in your trading station.
While all you have to do is click a button, knowing what happens
when you click that button is extremely important. However, you don't
have to worry about the technicalities right now. You will learn what
happens behind the scenes shortly when you learn about trading on margin.
Exiting the trade - Selling a currency pair is
only the first step in the trading process. To complete your trade and take
your profits, or losses, you have to exit your trade. To exit a trade,
you simply have to do the opposite of whatever you did to enter the trade.
If you sold a currency pair to enter the trade, you must buy back that same currency pair to exit the trade.
For example, if you sell the EUR/USD to enter the trade, you must buy the EUR/USD back to exit that trade.
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Doing Nothing with a Currency Pair |
You cannot make money trading the forex by buying or selling a
currency pair when the first currency in the currency pair (the base currency)
is not strengthening or weakening compared to the second currency in the currency
pair (the quote currency). When a currency pair moves sideways, it is extremely
difficult to make money by trying to buy or sell the currency pair.
To make money when a currency pair is moving sideways, you need to use forex
options. You'll learn more about forex options - what they are and
how you can put them to work in your account - later on in your
forex education. For now, focus on learning how to identify when a currency
pair is going up or down and how you can take advantage of those movements.
The Mechanics of Trading Currency Pairs
The forex market shares many similarities with other markets you are acquainted
with in your life - like the super market or a car market - where you
can buy and sell items for a set value. However, you also enjoy a
few unique benefits when you invest in the forex market. For instance,
when you trade in the forex market with Saxo Bank, you are able to control
and profit from significant quantities of currency without having to pay for it all up front yourself.
To fully utilize and appreciate the unique benefits you can enjoy by investing
in the forex market, you need to understand how each trade you enter works.
In particular, you need to understand what each of the following three concepts means:
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Leverage |
Leverage is probably the one characteristic of the forex market that intrigues
individual investors the most. Leverage is the ability to convert a small
amount of power into a larger amount through the use of a tool. Imagine
you are asked to move a large boulder from the spot where it is currently
resting. You could certainly try to push and move the boulder with your
bare hands, but your job will be much easier if you can use a tool& - like a large
pole - that you can place under the boulder that will give you some leverage.
The same principle holds true when you are investing in the forex market. You can
make money by investing just your own money, but you can make much more money if
you can use the tool of financial leverage by borrowing money from your dealer.
Note that a greater exposure of course leads to a greater risk of losing money.
You can lever, or increase the investing power of, your forex accounts by using
some of your own money to enter a trade and then borrowing the rest from your dealer.
For example, the forex market allows you to control $100,000 with as little as
$1,000 of your own money. That means you only have to pay for 1 percent of the
position with your own money. You can borrow the remaining 99 percent of the
purchase price from your dealer - but do remember to check the interest rate
that you borrow at to avoid surprises.
The leverage you enjoy in the forex market is determined by the margin you
are required to post for each trade.
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Margin |
The forex market is an exciting market because your dealer is willing
to lend you money so you increase your profit - generating potential in
all of your trades. Before your dealer lets you borrow money, however,
you have to show that you have some money to cover any losses you may incur.
Margin is the money you set aside with your dealer for safe keeping to prove that you are able to cover your losses.
For example, if you buy the EUR/USD, you will be required to set aside 1 percent
of the position size as margin. That means if the position size is 100,000 euros,
you will be required to set aside the equivalent of 1,000 euros to prove to your
dealer that you can cover losses of at least 1,000 euros should your trade move against you.
Different currency pairs have different margin requirements. Major currency
pairs have lower margin requirements because their high levels of liquidity
make it easier to enter and exit your trades quickly - which gives
your dealer added confidence it will be able to close out your positions without
incurring unexpected losses. Exotic currency pairs have higher margin requirements
because their low levels of liquidity make it harder to enter and exit your trades quickly.
Many beginning forex traders get confused by thinking that the money they set
aside as margin actually goes toward purchasing currencies. It does not. You
borrow 100 percent of the purchase price from your dealer. Your margin only
shows your dealer you have money to cover any losses that you may incur.
When you buy a currency pair, you do not have to come up with the cash on your
own. Your broker loans you enough of one currency to buy enough of the other
currency in the pair. For example, if you click on the "Buy" button to buy
the EUR/USD pair at 100,000 units, your dealer will loan you enough U.S.
dollars (USD) to buy 100,000 euros (EUR). If the EUR/USD exchange rate is 1.4000
at the time, your dealer will loan you 140,000 U.S. dollars to buy 100,000 euros.
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Example |
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Margin Calculation
Imagine you hold the money in your account in euros and you want to buy the EUR/JPY currency pair. For this example, make the following assumptions:
- The EUR/JPY is currently trading at an exchange rate of 160.00 meaning
it costs 160 Japanese yen (JPY) to buy 1 euro (EUR)
- The size of your trade will be 100,000 euros (EUR)
To determine the amount you will have to set aside as margin in your account, take the following steps:
- Determine how many Japanese yen (JPY) you will have to borrow to secure 100,000 euros (EUR)
€100,000 × 160 = ¥16,000,000
- Determine how many Japanese yen (JPY) you will have to cover based on a leverage ratio of 100:1
¥16,000,000 × 1% = ¥160,000
- Determine how many euros (EUR) you will have to set aside in margin to cover ¥160,000
¥160,000 / 160 = €1,000
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The Spread |
The spread is the distance between the price at which you can buy a currency pair
and the price at which you can sell a currency pair at any given moment.
You cannot buy a currency pair and immediately turn around and sell it at a
lower price. The price at which you can buy a currency pair (the "Ask" price),
is always higher than the price at which you can sell a currency pair (the "Bid" price).
Whenever you enter a trade, you start out with a small loss because of the spread.
You must overcome the spread - hold onto the trade long enough
for it to move through the spread - before you will be profitable
on your trade. It is a small hurdle to clear and a small price to pay for
the leverage and liquidity Saxo Bank provides in the forex market.
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