Each currency is represented using a three letter ISO (International Organization for Standardization) code. The first two letters of each currency code represent the country and the third its currency.
USD = US Dollar
CHF = CH Franc
GBP = GB Pound
There are one or two minor exceptions to the rules. The Russian Ruble, Mexican Peso and European Euro. If a country obtains a newer version of it’s currency, the ‘N’ is usually denoted.
MXN = MX Peso (New)
RUB = RU RuBle
EUR = EU EuRo
Currency Pairs are split into three main categories - Major Currency Pairs, Minor Currency Pairs, and Exotic or Emerging Market Currency Pairs. Each pair is expressed by a set of two currency codes. A currency pair is made of a base currency and a quoted currency.
BASE CURRENCY / QUOTED CURRENCY
The Euro quoted against the US Dollar will appear as EUR/USD.
The base currency is fixed at 1 unit, i.e. 1 Euro and the quoted currency is is a variable number expressing the units of currency needed to buy or sell the base currency. The currency pair EUR/USD may have a price of 1.1105, so the base currency Euro is fixed at 1, and it takes US Dollars 1.1105 to buy or sell 1 Euro. This quote or price is also known as the Spot rate or Spot price.
1 EUR = 1.1105 USD
Introducing Bid & Offer
The price to exchange a currency always has to sides, one side shows the price at which the market is willing to buy the Base currency, the Bid, and the other side shows the price the market is willing to sell the Base currency, the Offer.
1.11055 / 1.11085
So the left-hand side of the slash is the Bid, the market will buy Euro for 1.11055 US Dollars and the right-hand side is the offer, the market will sell 1 Euro for 1.11085 US Dollars.
Mind The Gap
The gap in price between Bid and Offer is called the Bid/Offer Spread or sometimes just Spread, and it’s what all the price makers earn for quoting their Bids and Offers.
This Spread also impacts how much you are going to earn on a trade. Some FX brokers add a spread to the market Spread, this is their compensation as they don’t charge commissions.
Be aware of how wide the Spread is
The Spread will also vary depending on the currency pair being quoted. If it’s a cross or an exotic currency pair you can expect to have a wider Spread.
What is a Pip?
A pip in financial market terms is the fourth decimal place to the right of a unit, or in other words a 1000th of the unit price. It is usually the smallest price change possible. However, some FX pairs are quoted to the fifth decimal place, as in our example above. Some brokers and traders call the fifth decimal place a pip, true it’s the smallest possible change in price, but in Market talk or in professional spheres that 5th decimal is ignored, so the Spread between Bid and Offer in our example is equal to 1.11085 - 1.11055 = 0.0003 or 3 pips.
Note that some prices are quoted in 100s of units, for example, USD/JPY may have a quote of 120.753, in this case the smallest possible change is the third decimal place. However, the pips are considered to be counted from the second decimal place. So 120.853 - 120.753 is equal to 10 pips.
What is a Lot in Forex?
A lot is the standard smallest size of a security. In stocks, it’s often per 100 shares. In the Forex market, there is no standard trade size, it depends on many factors, such as if you are an Institutional Trader, a Day Trader and even within those categories what type of institution or trader, however sizes are standardized and are commonly referred to by these names:
Yard = 1,000,000,000
Buck = 1,000,000
Standard = 100,000
Mini = 10,000
Micro = 1,000
Forex Major Currency Pairs
There are 7 major currency pairs that you should be aware of and know by heart. These currency pairs usually have the tightest Spread and are the most liquid. They are the currencies of the world’s most developed & stable economies, even though not always the largest as in the case of New Zealand. Most major pairs are quoted against the Dollar, which is the most traded currency in the world.
Table of Major Currency Pairs
|EUR/USD||Euro / US Dollar|
|USD/JPY||US Dollar / Japanese Yen|
|GBP/USD||British Pound / US Dollar|
|AUD/USD||Australian Dollar / US Dollar|
|USD/CAD||US Dollar / Canadian Dollar|
|USD/CHF||US Dollar / Swiss Franc|
|NZD/USD||New Zealand Dollar / US Dollar|
It is also possible to trade in a currency pair not listed above, by combining any two currencies from different pairs, these are known as Crosses. The most commonly traded are EUR/GBP and GBP/JPY, although you could also trade EUR/NZD if you wanted to.
From the Graph below, you can see the first six are also the most traded and have the highest global volumes. The EUR/USD takes the top spot in terms of volume traded followed closely by the USD/JPY. The rest are some distance from these two, the NZD being the 9th highest in trading volume, however they are all considered Major Currencies.
Forex Minor Currency Pairs
This list is a bit more variable in the sense that it could include any first world country with political stability and relatively large economies quoted against the USD, EUR or the GBP. The market for minor pairs is much smaller and therefore less liquid. Price moves are more likely to be very large on an average day with even larger price moves if unexpected news hits the market.
Table of Minor Currency Pairs
|USD/HKD||US Dollar / Hong Kong Dollar|
|USD/SGD||US Dollar / Singapore Dollar|
|USD/SEK||US Dollar / Swedish Krona|
|USD/ZAR||US Dollar / South African Rand|
|USD/NOK||US Dollar / Norwegian Krone|
|EUR/SEK||Euro / Swedish Krona|
|EUR/NOK||Euro / Norwegian Krone|
|GBP/SEK||British Pound / Swedish Krona|
|GBP/ZAR||British Pound / South African Rand|
It is also possible to trade any of the possible crosses that can be derived from combining two of these currencies. Remember: Spreads on Forex Minor pairs will be considerably wider than on Major pairs, especially on Crosses.
Exotic Currency Pairs
These Forex pairs are currencies of emerging market countries exchanging against the US Dollar. The main ones being USD/MXN, USD/CNY and USD/RUB. There is also some volume on European Emerging Market pairs like EUR/HUF.
The full list gives a clear idea of the scope of different possibilities. The Exotic Markets have the lowest liquidity out of all types of currency pairs.
They are more prone to being subject to large changes in price or higher volatility and gaps. This also leads to their Spreads being much wider than Minor Currency pairs too.
Table of Exotic Currency Pairs
|USD/MXN||US Dollar / Mexican Peso|
|USD/CNY||US Dollar / Chinese Yuan or Renminbi|
|USD/RUB||US Dollar / Russian Ruble|
|USD/BRL||US Dollar / Brazilian Real|
|USD/INR||US Dollar / Indian Rupee|
|USD/MYR||US Dollar / Malaysian Ringgit|
|EUR/HUF||Euro / Hungarian Florint|
|EUR/PLN||Euro / Polish Zloty|
|EUR/CZK||Euro / Czech Koruna|
|EUR/TRY||Euro / Turkish Lira|
Most Volatile Currency Pairs
The list above is just a sample of the many Emerging Market countries. All quotable against US Dollar, Euro and other Crosses, please refer to the BIS (Bank for International Settlements) Triennial report for a complete list of Currencies and codes.
Note: Exotic Currency pairs are volatile and Spreads are even wider than the Minor Currencies.
What Are Your Options?
There are also other ways of trading Forex other than over the counter Spot markets. The most popular amongst retail traders are Options but there is also a very large market for Forwards and a Futures market for currencies.