Forex Trading - Currency Exchange

Understand the Basics of Currencies, Foreign Exchange and Forex Trading

Understand the Basics of Currencies, Foreign Exchange and Forex Trading

If you’ve ever traveled or done business overseas you’ve almost certainly done a currency exchange in the past. Did you know that you can have your own foreign currency bank a/c and change your money online at rates much better than your bank will give you?

Here we show you how to target an exchange rate for your foreign exchange just like a professional Forex trader, so that you get the best possible rate, and we take you through all the basics you need to know about currencies and dealer quotes.

When you first begin to deal with foreign currencies some of the terminology can be confusing, not to mention how it all works, so let’s try to make it much clearer.

A currency is simply the type of money which is accepted as legal tender in any particular country. E.g. in the United States it’s the US Dollar, in the UK it’s the Great British Pound, and in the 16 countries of the Euro Zone (e.g. France, Germany, Italy, Spain etc) it’s the Euro.

All of these currencies are “floating” against each other in the international money markets and will rise and fall in value relative to each other, usually as a result of events in international business.

In business terminology foreign exchange is called Forex or FX for short. In the currency exchange markets each currency is known by a unique 3 letter abbreviation. Those which you are likely to see most often are the following;

USD United States Dollar
EUR Euro
GBP Great British Pound
JPY Japanese Yen
CAD Canadian Dollar
AUD Australian Dollar
CHF Swiss Franc
SGD Singapore Dollar
NZD New Zealand Dollar
ZAR South African Rand

Foreign Exchange rates (Changing money from one currency into another)

To begin to understand how foreign exchange rates are quoted and what they mean, let’s begin by looking at a currency exchange transaction you will probably have done at some point in your life.

When you conduct a foreign exchange transaction (e.g. sending money to your folks back home) the dealer you conduct the transaction through will show the value of one currency against another expressed as a BUY rate in a currency pair.

E.g. GBP/USD 1.6543. This exchange rate means that 1 GBP (British pound) will buy $1.6543

Don’t be confused by how many digits appear after the decimal point. This simply allows for very large transactions.

So, for example if you are a UK tourist thinking about your holiday spending money for a trip to the US the above rate will simply mean to you that 1 GBP will buy you $1.65 (We’re looking purely at the currency exchange rate here, and ignoring any fees the dealer may charge).

If you’re planning on doing some serious spending on your trip to the US the above exchange rate means that 1,000 GBP will buy you $1,654.30

Hopefully that’s fairly easy to understand. So, here you’ve been able to see that the first currency shown in a currency pair is always the base currency in that pair, i.e. the pair is showing how much 1 unit of the base currency (GBP in this example) is worth in the other currency (the USD in this case).

If on your return from your trip to the US, you find that you didn’t manage to spend all your US dollars and still have $1,000 left which you want to convert back into GBP, the transaction you now want to do is to Buy GBP by Selling the USD.

So, now you would ask your dealer for a USD/GBP buy exchange rate. i.e. for every 1 US dollar, how many British Pounds will you give me?

If you’re changing money in multiple currencies it’s easiest to think of all transactions in terms of Buy rates as shown above.

Base currency tables

When you visit a foreign exchange counter at a bank you will normally see a display showing various exchange rates against the domestic currency of the country in which your bank branch is situated. For example, in New York a base currency table will show buy and sell rates for all other currencies against the USD.

If a base currency table showed the rates for the JPY to be BUY 94.86 and SELL 95.01 this means;

For every 1 USD you hand over you will buy 94.86 JPYs, and if you want to convert your JPYs back into USDs you simply use the Sell rate, so for every 95.01 JPYs that you SELL to the dealer they will hand you back 1 USD.

Hopefully you can now see why this table is said to have the USD as its base currency, because the rates on the table all show the relationship of the foreign currency (in this example the JPY Japanese Yen) to 1 USD.

You can hopefully also see how this table would really only be useful for people who are only ever buying and selling just the USD against other currencies.

For example, it would be of only limited use to say an Australian business woman who maybe wants to sell Australian dollars (AUDs) in order to purchase goods in the US with USDs, but who receives payment for her services to her Japanese clients in JPYs, and from her local clients in AUDs, and who needs to pay her local staff in AUDs, and who wants to have some EUROs in her pocket for her business trips to Europe !

In her particular life she doesn’t really have one single base currency, as she receives her income in Japanese Yens and Australian Dollars, and spends money in AUDs, USDs and EURs.

So, it will be far more relevant for her to see currency exchange rates expressed as buy rates for AUD/USD or JPY/AUD or AUD/EUR.

Truth In Forex Trading

Everyday, trillions of dollars are traded in Forex trading, making it one of the largest financial markets on a global level. Through investing in right choices, a person can be rich in just a small while.On the other end but, money can be lost easily. It is a matter of knowing more about realtime forex.

A person must be patient and disciplined for him to be a excellent trader, and know the process of trading.He should be ready to take risks which could probably bring profit to his capital. He should be reasonable in making decisions for his asset, and not be greedy and imprudent.

Investors are easily attracted to online currency trading as it is available at the comfort of one’s own home.Any person who has access to a personal computer and internet can use it as there is no actual physical exchange of money, thus, making it a very handy option. Forex trading information can be easily browsed especially for those who want to learn more about the trade. Not only huge time investors are the ones fascinated because of its handiness and simple availability but also small and medium enterprises, and firms.

Strategy and technique are two vital tools to maximize profit for traders who are getting into Forex trading.The profits and losses of the trader will rely in his strategies.Certainly, anyone and everyone have the opportunity to generate profit in this 24-hour market that is available on a global scale.

Traders often buy or sell a specific currency pair at the current exchange rate.With the help of technology, trade has no actual physical exchange of money.As the trade is very quick, the excellent background on trade is vital in order to increase profits and cut losses.To be a excellent trader means to be able to foresee the prices of currency pairs using technical analysis, market fundamentals and other factors.But, it is not always enough to have a excellent knowledge about the market.

If you want to anticipate the price of currency pairs, you must be aware of news that will affect the market even if they are not directly linked to business.GDP, unemployment, and natural disasters are just some of the things that can affect a country’s currency and production.Market can still be affected in many ways even if news such as these is not presented specifically for traders.The basic rule of thumb in forex is that excellent news means the currency had increased, and the terrible news means currency had decreased.

It will be hard for an individual trader to monitor the market all the time because of the huge operation of market which is twenty four hours a day.To monitor the market even while the trader is asleep, an automated trading software is one option often preferred to.

It is always practical to question help from dependable people who are already engaged in the Forex trade considering the risks of the trade. Those who often end up with losses are those novices who enter Forex without knowledge and strategy. But, those that bring home profits are those who did their homework. Yes, you must have to know more about realtime forex.

Using Historical Data

If you are developing any kind of forex trading system or methodology, then it is essential that you first test you system or methodology as much as you can. It order to do a rigorous and extensive test, it is essential that you use historical data from your broker’s platform. When using the MT4 platform via an established broker, you have access to literally years of data on all forex currency pairs. What you can do is you can do a visual inspection via past data on the charts, or you can download the data and do a more quantitative analysis in spreadsheets such as Excel. By doing this, you can do rigorous tests on the data using your system or methodology. Another thing you could do, if your system is a simple one, is to create an expert advisor (more commonly known as an EA), which you can then use to test on back data. For example, if your system is an inside bar breakout system that goes with the dominant momentum, you could create an EA with these conditions (using two moving averages as the conditions to assess the dominant trend) and use it to test historical data. If it works well, you could even do a live test and have the trading robot do all of the work for you! However, it is difficult to create a profitable EA in the long term, and I would recommend using them to only perform basic tests. In summary, historical data is invaluable in determining whether a system or strategy has an edge in the market, and it is also important in determining your risk levels and ascertaining what your maximum drawdown might be. So, utilize the power of historical data, and test you systems as much as you can before taking them live. It will give you an edge that is much needed if you are to be profitable in the forex markets.

Using Metatrader

There are various platforms that you can trade the foreign exchange markets on, but one of the most popular is the platform known as Metatrader. The one major drawback for me, as an Apple Mac user, is that Mac OSX does not support Metatrader. However, there is a way around this by setting up a VPS (virtual private server) for a monthly fee, which allows you to use a pc computer remotely via the Mac software “Remote Desktop”. This effectively gives you a second pc computer running on your Mac. In my opinion, it is well worth doing as Metatrader is a great platform to use. Figure 1 shows Metatrader set up to view fifteen forex pairs simultaneously. You can click on one of these pairs to get a better view (see Figure 2). You can also zoom in and zoom out, and view charts on 1-minute, 5-minutes, 15-minutes, 30-minute, 1-hour, 4-hour, daily, weekly, and monthly timeframes. To do this you simply click M1, M5, M15, M30, H1, H4, D1, W1, and MN (see Figure 3). There are various tools in Metatrader to help assist you in your trading. The Fibonacci tool is one I use a lot, together with the horizontal lines that you can draw on the chart. There are also a whole host of indicators that you can overlay on your charts. I only use the exponential moving average indicators, as I like to keep my charts clutter free. I also use the ‘rectangle’ tool in ‘insert’ and then ‘shapes’. I use this to draw in my areas of support and resistance and color it in green. This then stays in the background. All in all, I would not like to use any other platform to trade on, as everything I need is included in Metatrader. I have tried some other online platforms, and they always seem to fall short. Metatrader is the one for me – give it a try on a demo account. I’m sure you won’t be disappointed.

Using a Demo Account

Before trading forex on a live account with real funds in it, I believe that you should first practice in one of the free demo account that brokers often offer. I could give a whole host of metaphors to explain why you should do this… Do professional footballers go into a big game without training? Do rock singers not warm up their vocal chords before a concert? Do 100 meter runners not train for months, perfecting every aspect of their mental and physical condition? Well, it is the same with forex. You need to practice – because with practice, comes confidence and ability. If you can consistently make money on a demo account for three, or even six months, then you know you can also do it on a live account. Even if your live account was to start off with a few bad trades, you would be safe in the knowledge that you have had drawndowns before, and that your trading methodology is sound. There have no doubt been countless numbers of people, even highly educated ones, who have opened a live account thinking that they can make money if they simply put the time in. But when you think about it, it really is an arrogant attitude to have. If it was that easy, then everybody would be rich – right? Trading forex takes screen time, diligence, reading, learning, and above all, practice. There are a number of factors that you must become adept at before you should open a live account. These include a sound trading methodology, money management skills, controlling your emotions, and sticking to your plan. If you have already been doing these things successfully for a while, and have been making money on a demo account for a few consecutive months, then you might be ready to open your live account and deposit some funds. If not, then I strongly advise that you open a demo account and practice.

Prof FX