What is Forex?

Foreign exchange, or forex, is the world's largest financial market; it is a market with a huge average daily trading volume of $5 trillion. Plus500 offers 24-hour CFD trading on FX pairs, opening at 08:00 Sydney time on Monday mornings, and running through to 16:00 New York time on Friday afternoon. In basic terms, forex refers to the purchase of one currency against another. Plus500 offers CFD trading on over 70* different currency pairs.

In the world of forex, there are 3 primary markets:

• Spot Forex Market – The physical exchange of a currency pair, taking place on the spot date (generally, this refers to the day of the trade plus 2 days - “T+2”).
• Forward Forex Market – An Over the Counter (OTC) contract to Buy or Sell a set amount of a currency at a certain price at a future date.
• Forex Futures Market – A forex futures contract is an exchange-traded contract to Buy or Sell a specified amount of a given currency at a predetermined price on a set date in the future.

Illustrative prices.

Introduction to Forex

As mentioned above, forex focuses on the trading of currency pairs, and can be defined as the simultaneous purchase of one currency against another. Forex takes place mainly on the OTC market; however, it is also traded on futures exchanges.

Currency pairs generally fall into 4 main categories: Majors, Minors, Crosses and Exotics. Major Currency Pairs always involve the US Dollar (USD) being traded against other major currencies, namely the Euro (EUR), the 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). Minors and crosses involve one of the majors against a range of currencies that are traded at smaller quantities.

FX movements can reflect a number of different fundamentals including economic growth, international trade flows and changes in interest rates.

Before trading, you need to learn how to read a currency pair. The first currency is known as the ‘Base’ and the second currency is known as the ‘Quote’. For instance, if you were to buy the EUR/USD currency pair, it means you are buying euros while selling dollars. Should the euro strengthen against the dollar, then you would make a profit. Conversely, should the euro fall against the dollar, then you would lose money.

The exchange rate is reflected in the quote currency. So, if the EUR/USD is trading at a rate of 1.1322, it means that 1,000 euros can be exchanged for 1,132.20 dollars.

What Moves the Forex Market?

There are many different factors that can affect the forex market. Below you can find a few:

• Central banks – The world’s money supply is determined by central banks. If a central bank increases the money supply, the currency will likely drop. Generally, central banks also control interest rate levels, which is critical to the strength or weakness of a currency.
• Economic data – Reports on the state of the economy serve as an important indicator of the currency’s strength. Major economic data includes unemployment rates, inflation rates and trade balances.
• Interest rates – Volatile currency moves tend to occur when a country’s central bank makes an unexpected move in interest rates. For example, if a central bank decides to unexpectedly cut interest rates the currency, this will normally lead to a significant drop in value (as the market responds to the sudden change in monetary policy).

Of course, this is not as straightforward in practice. You need to integrate a variety of indicators and take the quote currency into account as well. Plus, timing is extremely important. You can use charting tools and an economic calendar for indications of when to open or close a trade.

Key Forex Definitions

The following are forex-related definitions that you should familiarise yourself with when trading online:

• Pip – Generally the lowest increment in which a currency pair is priced.
• Spread – The difference between the Buy/Sell (Bid/Ask) price for a currency pair.
• Leverage – Allows you to trade higher amounts with less capital. A leverage of 1:50 means you would need $200 to place a $10,000 trade.
• Exchange Rate – The value of a base currency against a quoted currency.
• Bid – The price at which the market maker/broker is willing to buy the currency pair.
• Ask – The price at which the market maker/broker is willing to sell the currency pair.

It may also be helpful to learn the nicknames of the popular foreign exchange pairs. For example, GBP/USD is commonly named ‘Cable’, and EUR/USD is called ‘Fibre’. In addition, trading the USD/JPY currency pair is known as trading the ‘Ninja’, USD/CHF is called ‘Swissy’, and USD/CAD is referred to as ‘Loonie’.

Popular FX Trading Pairs

The bulk of FX trading is priced against the USD, which has long been regarded as the world’s official base currency. As mentioned above, all Major Currency Pairs (or Majors) are traded against the USD, and are generally regarded as the most popular currency pairs to trade. Many Cross-Currency Pairs (or Crosses) also experience heavy trading flows including EUR/CHF, EUR/GBP, and AUD/JPY - to mention a few.

In general, the top traded currency pairs are:

• EUR/USD – This is the most widely-traded pair with the highest volume and deepest liquidity. To learn more about the EUR/USD currency pair, click here.
• GBP/USD – This is a popular currency pair that tends to be more volatile than EUR/USD. Volatility in GBP/USD has been higher in recent times due to the effects of “Brexit” (Britain's exit from the EU) and the economic uncertainty this has created. To learn more about the GBP/USD currency pair, click here.
• USD/JPY – This is the second most traded currency pair by volume behind the EUR/USD. It experiences high volume due to the size of Japan’s economy and its role in global economic trade. Due to its geographical location, trade in JPY can also reflect economic and geopolitical conditions in the wider Asian region. To learn more about the USD/JPY currency pair, click here.

The seven major pairs make up over 80% of the total FX trading. Crosses are currency pairs that do not involve the USD, such as EUR/GBP, AUD/NZD and EUR/CHF. Exotics are major currencies paired against a smaller, less liquid economy, such as EUR/TRY* (Euro to Turkish Lira) or USD/MXN* (US Dollar to Mexican Peso).

Illustrative prices.

How to Choose the Best Currency Pair to Trade?

When choosing a currency pair to trade, you should test your strategy either with a popular FX pair, or with your local currency against the USD, on our free, unlimited Demo Account. Be cautious and diligent in your trades, and open small trades initially to carefully observe how the market is performing over time.

Plus500 offers CFD trading on the world’s leading currency pairs. Our user friendly yet advanced online CFD platform includes a free demo account, a wide variety of educational resources and trading tools that are made available to new and experienced traders alike. Our spreads are among the lowest in the industry and the intuitive platform is designed for ease of use, without compromising on in-depth analytical insights and sophisticated trading options.

This article contains general information which doesn't take into account your personal circumstances.

*Instrument availability varies by operator.