3. How to interpret a FOREX Quote

How to interpret a FOREX Quote

For new traders it can be a bit confusing to read the Forex currency quotes. In this article we are going to see how currencies are quoted and how it works. In FX, you will see that currencies are quoted in pairs. Why? As simple as that it’s all about a pair because we are exchanging one for the other. The main instrument of trading in Foreign Exchange is the currency. 

While reading a Foreign exchange quote keep in mind that the first currency is always the base currency. Currencies are displayed in Latin Symbols or the ISO (International Standardization Organization) codes which is being accepted and followed internationally. These codes have only 3 characters. A currency pair for example will be quoted as 

EUR/USD

The first currency listed which in this case is EUR is the Base currency and the second currency is called the Counter currency or the Quote currency which in our case is the USD. Also, note that base currency is always equal to 1 unit, which is 1 EUR here. Another example with a couple of other jargon is shown below:

article3_1When it comes to placing a foreign exchange trade keep in mind that at any point of time you are taking a position in the market, you are doing so in terms of the base currency. If you are buying a currency pair you are buying the base currency and if you are selling a currency pair you are selling the base currency. Isn’t that another easy to understand concept? 

So if you are buying a EUR/USD you are buying Euros and selling US Dollars. Hence if you think EUR is going to raise in comparison to USD buy the pair or if you feel it’s going to go down, sell the pair.  It’s definitely simple now. Isn’t it? 

Now, let’s deep dive into some other terminologies which should be understood to interpret the FOREX quotes. 

When USD is not one of the components constituting the currency pair in a foreign exchange quote, it is called Cross currency. In earlier days traders who wanted to exchange money into a different currency had to first convert that money into US Dollars and then convert it into the desired currency. This simply means that one currency is traded for another without having to first exchange the currencies into US dollars. Some of the most common cross currency pairs are the EUR/GBP, EUR/JPY and EUR/CHF.  Normally experienced traders deal with cross currency pairs it is required to have good economic knowledge of different countries.

As you can see in the example above, you can always see a two sided quote in FX. These are nothing but the bid and ask price. The quote before the slash (/) is the bid price and the two digits after the slash represents the ask price. 

Is it confusing as to how only two digits represent a price? Don’t worry as it’s not that confusing as you think. When representing the ask price, only last two digits are quoted. So if you want to buy the currency pair GBP/USD , which means you are trying to buy GBP, you need to look at the ask price which represents the amount of USD (quoted currency) that has to be paid in order to buy one unit of GBP. The ask price in this case is 1.5144 which means you can buy one GBP with 1.5144 USD. Sounds cool. 

However, in order to sell this currency pair, you need to refer to the bid price which is 1.5143. This means you can sell 1 GBP for 1.5143 USD. The key point to keep in mind is that the base currency is always the one in which the transaction is being conducted. 

Hopefully, now you understand how currency pairs are quoted and what you buy and what you sell when you enter into a Forex trade. Did you say No you don’t? You probably would have to go back to the beginning of this article and read again to ensure that the rest of this stuff is making sense. 

Congratulations you are here because you understand the basics of a Forex quoted. Good going! Let’s try to understand the term Spread now. The difference between the bid price and the ask price is called a spread. 

So if we look at the quote GBP/USD = 1.5143/44, the spread would be 0.0001 or 1 pip. We will shortly get to pip. Before that we need to understand that even though the difference is very small and seems insignificant, it can result in gain or loss of thousands of dollars. To re-iterate spread is the difference between ask and bid price,

i.e. spread (also referred to as transaction cost) = ask price – bid price

Alright, so coming to pip now, abbreviation for Percentage in Point is the smallest price change that can happen to an exchange rate. So the smallest move GBP/USD can make is 0.0001 GBP or 1 point. 

To summarize the example and the terms we just learned, 

article3_2Let’s have a look at the forex trade size now. Historically, Forex brokers offered only one contract size which was 100,000 units if currency. So when the trade was for a lot (1 lot), it meant 100,000 units. But in recent past, transactions costs have reduced and technology advanced which resulted in Forex brokers offering different lot sizes.

o Micro Lot – term used for 1,000 units. 

o Mini Lot – term used for 10,000 units.

o Standard Lot – term used to refer to 100,000 units. 

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Also, note that in the forwards and futures market currencies are always quoted against the US Dollar which means pricing is done in terms of how many US Dollars are required to buy one unit of the other currency.

Forex trading is no cakewalk, it takes lot of learning and analysis to be a successful Forex trader. But don’t worry, you are there. Good Learning!

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