Basics of FX

Background

Most liquid financial product in the world – USD 5.3 trillion generated daily

24 hours market, 5.5 days a week

FX as an asset class – it is treated as a hedging tool, a speculative instrument, or generally as an Alternative Investment

In its simplest terms, it is the exchange of one currency for another

To long a currency pair means to buy the 1st currency, and to short the 2nd currency, and vice versa


Currency Pairs

Majors: EUR/USD, GBP/USD, AUD/USD, USD/CHF, USD/CAD, USD/JPY, NZD/USD

Cross Currencies: Currency pairs that have 2 of the major currencies paired together (excluding USD), eg: EUR/AUD

Exotics: Usually currencies that are from an emerging economy or not found in the majors list, eg: HKD


Key Definitions

Pip: The smallest denomination of price change, typically 1% of the smallest denomination of the 2nd currency. Eg:

  • 1 pip for EUR/USD is 1% of USD0.01, ie 0.0001
  • 1 pip for USD/JPY is 1% of JPY1, ie 0.01

Spread: The difference between the sell price and the buy price, i.e the cost of trade.

Swaps: Also known as financing, they are the crediting or debiting of the daily interest differential generated in the currency pair. They will apply when trades are left overnight.

Margin: The amount that needs to be put up and/or maintained as collateral in order to open a position.

Margin Call: The broker will need to obtain additional funds in order to keep the client's position in adverse price movements.

An email will be triggered to clients to inform of the margin levels. He has 3 choices:

  1. Top up funds
  2. Close positions partially or fully
  3. Do nothing, but may risk Margin % falling further

During an immediate call, an email will be sent, and auto-liquidation will take place as a form of risk management procedure.


Trading Techniques

2 main forms:

  • Fundamental Analysis: The study of economic results and impact of news in the currencies’ home countries. Generally speaking, good results point to a likely strengthening of the currency involved.
  • Technical Analysis: The study of patterns and charts in a bid to predict potential price movements. This is on the basis that "History always repeats itself."

Conclusion

Due to the use of leverage, small price movements can cause a much larger profit or loss. Thus, it is widely believed that FX trades are more suitable for the short term.
As such, technical analysis will hold greater significance as compared to the lagged and long-term nature of fundamental analysis. However, prior to placing a trade, it is always important to check and assess if possible upcoming news will affect the direction of the trade