Some Common Forex Terms Explained Automated Forex Trading It’s now possible to fully or partly automate the forex trading process using software programs. A fully automated program will decide on and execute buy and sell orders based on pre-determined criteria and technical analysis, and supposedly needs no further input from the human trader at all. A partly automated system, by contrast, will give the trader “buy” or “sell” signals based on detailed analysis and will leave the trader the choice whether to execute the transaction or not. Bar Chart A very popular tool for forex analysis; a bar chart shows movements over time in the opening and closing prices (exchange rates) for a particular pair of currencies (eg £/$), and also shows the highest and lowest prices achieved during the time period in question. Bid Price The price (exchange rate) at which a forex broker will buy a given currency.
Bretton Woods The system for post-war international financial governance was established following a 1944 conference inBretton Woods,USA. It established the International Monetary Fund (IMF) and the World Bank, which survive to this day; and a system of fixed exchange rates which lasted until the early 1970s. Candlestick Chart Probably the most popular type of forex chart; the candlestick is in reality no more than a type of bar chart, but one which presents information about opening/closing and high/low prices (exchange rates) in a more visually appealing and easy to understand format. This information is essential to successful trading, but although candlestick charts are a very useful method of presenting it, the use of glamorous sounding names like “shooting star” should not imply that there is any magic in them. In fact these kind of charts should be regarded as the beginning and not the end of a trader’s forex education. Carry Trade A classic form of forex trade in which funds held in one currency are exchanged for those of another currency which is for the time being attracting a higher interest rate. Profits are guaranteed so long as the interest rate differential remains, provided that the higher interest rate currency does not decline in value against the lower paying. Charts Charts are the fundamental and essential tools for the historical and technical analysis of the forex market. There are three main types of chart – “line”, “bar” and “candlestick”. Each of these have their advantages and disadvantages, but some kind of detailed analysis is essential for successful Forex Education @ 2012
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trading in the forex markets; and so it is important to gain at least a basic understanding of what each type of chart can tell you. Closing A Position Where a trader has taken a long or short position (see below) in the expectation of favourable exchange rate movements, this position is closed when either the currency bought long is sold or the currency sold short is bought back; with the consequent realization of the relevant profit (or loss). Closing Price Strictly speaking the global forex market closes at 5pm United States EST every Friday and opens again at 5pm EST every Sunday, thus trading 24 hours a day for five days a week. But in practice there are several distinct forex markets in each ofAmerica, Europe andAsia, so that you will commonly hear media news reports stating, for example, that “the pound closed down against the dollar” etc., referring to one or other of these different markets. It doesn’t really matter so long as you know which market you are trading in, and use charts relating to that market only. Convertibility The extent to which a nation’s currency may be freely traded on the international forex markets. Generally, only fully or highly convertible currencies, the markets for which are highly liquid, will be of interest to the forex trader. Country Risk Similar to “Political Risk” (see below), but tends to refer to the more extreme risks, such as war, revolution, coup d’etat etc, which may affect a country and have profound implications for the value and convertibility of its currency. Currency Futures A contract to buy or sell a particular currency at a pre-determined price at some point in the future (for example in 90 days time). Futures are often used to protect businesses and investors against adverse movements in exchange rates, eg by acquiring the right to buy in 3 or 6 months a significant amount of a particular currency at the exchange rate which applies today. But they can also be used as a speculative but high risk method of forex trading. End Of Day A trader’s net profit/loss position according to the sum of his holdings’ closing prices at the end of a business day. Exchange Rate From the point of view of forex, best understood as the price of one currency compared to another. So if the pound/dollar exchange rate is $1.5 to £1, one pound costs $1.50 to buy, whereas a dollar will buy £0.66, or 66 pence. Fibonacci A popular method of predicting price (exchange rate) movements by applying the theories of medieval mathematician, Leonardo Fibonacci to modern forex charts (See “Support and Resistance” below). Forex Education @ 2012
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Fixed Exchange Rate A system by which national governments or central banks attempt to fix the exchange rate of their currency either by reference to another currency (or currencies) or to some supposedly objective external standard such as gold (the Gold Standard). In the capitalist world, fixed exchange rate systems had largely been abandoned until the advent of the eurozone, but the folly of governments in trying to control exchange rates (of which the euro is just the latest example) have historically provided traders with tremendous profit opportunities. Floating Exchange Rate A currency’s exchange rate is said to float when it is determined by market sentiment, ie supply and demand, rather than fixed or managed by government or central bank policy. The current popularity of forex terms are largely due to the prevalence of floating exchange rates, but predicting the demise of fixed exchange rate systems has also proved extremely profitable for traders in the past; George Soros’s $1 billion bet against the pound sterling’s remaining in the ERM being the best known example. Forex Broker The forex broker is the trader’s gateway to the market place and the choice of broker is probably the most important decision the aspiring trader needs to make. There are literally hundreds to choose from, with minimum deposits ranging from $1 to $25,000 or more; and maximum permitted leverages varying from 1:50 to 1:1000; so selecting the one which best matches your needs and trading philosophy is by no means an easy matter. Research, research and more research is really the only advice that can be given, but fortunately there is a great deal of information now available online. Hedge A secondary transaction designed to reduce a trader’s exposure to loss on his primary order. Initial Margin The minimum deposit a broker will require before accepting a trader’s order for a particular transaction. Leverage The term leverage is widely used across many financial markets and may refer to any of a number of methods of artificially increasing a trader’s potential profit (or loss) on a particular transaction. In the context of the forex market, this normally means using funds borrowed from the trader’s forex broker. The amount of leverage is expressed as a ratio; for example 20:1, 50:1, 100:1 or more. So a trader might deposit $1000 with a broker, and then trade $20,000, $50,000 or $100,000 according to their brokerage arrangements. LIFFE The London International Financial Futures Exchange which offers futures trading in interest rates, government bonds and the UK stockmarket. Line Chart The most basic tool for forex analysis; a line chart presents the closing price (exchange rate) for a particular pair of currencies (eg £/$) as a zigzagging line. The vertical axis of the graph is the price, Forex Education @ 2012
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and the horizontal axis is the time; so a particular line chart may give data, for days, weeks or even years. Long Position Taking a long position or “going long” means buying or borrowing funds in a particular currency in the hope or belief that its relative value (or exchange rate) is about to increase. So a trader may exchange pounds for dollars in the belief that the latter is about to appreciate. If he is right, then the increased value dollars can then be used to buy a greater quantity of sterling than was originally exchanged; yielding an immediate profit. Margin Call Where a highly leveraged trade or position is looking like producing significant losses for a trader, the broker may call for extra funds or collateral to secure his own position; such a move being referred to as a “margin call”. Offer Price The price (exchange rate) at which a forex broker will sell a particular currency. Opening Price Strictly speaking the global forex market opens at 5pm United States EST every Sunday and closes again at 5pm EST every Friday, thereby trading 24 hours a day for five days a week. But in practice there are several distinct forex markets in each ofAmerica, Europe andAsia, so when you hear media news reports stating, for example, that “the pound closed down against the dollar” etc., they are describing price movements in relation to the different closing and opening times which these markets have. Although this may seem confusing, it doesn’t really matter to the trader so long as you know which market you are trading in, and use charts relating to that market only. Order Simply an instruction from a trader to his broker to make a particular trade; usually, and most simply, to buy or sell (ie exchange) a particular amount of a certain currency. Pip The smallest exchange rate movement commonly recorded and quoted in statistics and charts, typically 0.0001 in the case of dollar/pound and dollar/euro transactions (see “tick” below). Political Risk Even in the age of floating exchange rates currencies are not immune from the attempts of governments and international bodies to influence these rates. The repeated attempts to rescue failing Eurozone economies are the most notable current example, but the value of currencies is always vulnerable to the inflationary policies of governments and the interest rates set by central banks, whose independence may be theoretical at best. But it should be noted by traders that these political decisions are often a source not just of risk but of opportunity. Shorting
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“Shorting”, “selling short”, or “taking a short position” all refer to the selling of owned or borrowed funds in a particular currency asset in the belief that its price (exchange rate) is about to fall. After the fall, the original currency can then be repurchased for an immediate profit. The 1992 shorting of the British pound sterling by George Soros, for a reputed billion pound profit, remains the classic example. Spread The difference between offer and bid prices; generally the larger the spread the greater the liquidity in a market. Support and Resistance In tracking price (exchange rate) movements, traders will commonly refer to support and resistance as factors affecting the maximum and minimum prices observed. “Support” factors will work to prevent a price falling below a certain level, whereas “Resistance” factors will work to prevent it rising beyond a given maximum. Understanding which support and resistance factors are operating on a given price at any particular time is one of the major keys to good decision making and the correct use of analytical tools such as the Fibonacci method is crucial to this understanding (See “Fibonacci” above). Tick Also, confusingly, known as a “pip”, the smallest recordable movement in a price or exchange rate – eg a move from 0.6571 to 0.6572 in the dollar/sterling price. Trading System The term which describes any one of the numerous trading strategies from which forex traders may select. The ability to select and stick to a proven and coherent trading strategy is essential if the trader is to succeed in the forex market. Two Way Price A forex quote which includes both offer and bid prices. Whipsaw A term describing sudden price (exchange rate) movements in a highly volatile market. On a chart, these appear as sharp zigzags, a sharp rise or fall in price typically being quickly followed by an equally sharp reversal of direction. Visit us at http://forexeducationfx.com/ for more information about forex education .
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