Lesson 3: FOREX - Instrument Type

What are Currency Pairs?

Hi, welcome to our third lesson of Forex Trading. In this lesson we’re going to go over a few basic, yet crucial topics that you should know in order to start trading in the Forex Market.

In the Foreign Exchange Market, currencies are quoted in pairs. This is because in the Forex Market you always want to buy one currency and sell another simultaneously. When you exchange your money at the airport you give one currency to get another. You are actually selling one currency and buying another currency at the same time. Two currencies that are together are called a "currency pair". 

Currency pairs are divided up into 3 groups: The Majors, the Crosses and the Exotics. 

1. The majors include 7 of the most popular pairs that contain currencies that are traded against the U.S. Dollar and constitute up to 90% of all trades in the Forex Market. This group consists of currencies such as the Euro, the Japanese Yen, the Great British Pound, the Swiss Franc, the Canadian Dollar, the Australian Dollar and the New Zealand Dollar. You can also see what their nicknames are in the rightmost table:

   

   Nicknames of Major currencies in Forex Market

   Out of all the Major currency pairs, The Euro U.S. Dollar (EUR/USD) is the most traded, accounting for over 30% of all Forex trades followed by the USD/JPY and GBP/USD. 
2. The next group is the "Crosses". Crosses are all the currency pairs that don’t contain the U.S. Dollar. They are mainly derived from the Euro, the Pound and the Japanese Yen. Some popular Crosses include the Pound Yen, the Euro Yen and the Euro Pound.
3.  The next group is the "Exotics". The Exotic Pairs are usually a combination of a less traded currency with a more popular traded one. For example, the South African Rand or the Turkish Lira are classed as exotic currencies and when traded against the U.S. Dollar or Euro, they are classed as Exotic Pairs.
   
   

Why the U.S. Dollar is so popular and traded so often?

1. Reason no 1 is the U.S. has the largest economy in the world and since the Dollar originates from the U.S. it is considered to be a strong currency to trade with.
2. Secondly, the U.S. has what is called an "enduring" economy giving us belief that the Dollar is a stable currency during times of turmoil.
3. The third reason that the U.S. Dollar is so popular is because global trade of raw materials is usually done in U.S. Dollars. Think about how many Dollars transfer hands on a daily basis. 

What is currency rate?

As we previously mentioned, two currencies together are classed as a "currency pair" while the number beside it reflects the rate of that pair. A currency pair is made up of a base currency and a quote currency. The "base currency" is always on the left and the “quote” is always on the right. 

The currency rate of a pair signals how much you need to pay in the quote currency in order to buy one unit of the base currency. 

This shows us that you would need to pay 1.4980 dollars to buy one euro. Or in other words every euro is worth 1.4980 dollars.

Why Currency Pairs move and how can you benefit from these?

There are a few reasons as to why a currency pair would move. They tend to change from currency to currency yet the following two reasons usually apply to all currency pairs. 

1. The first reason is political. Certain political event, such as a new president or government change, can either have a positive or negative impact on a currency. For example, if the UK was to choose a new Prime Minister, some people may see this as a start of a new era where the UK economy could strengthen. This could have a positive effect on the Pound as some people would prefer to hold a currency of a strengthening economy. 
2. The second reason is economical. If a country has a thriving economy, it usually tends to have a thriving currency as well. A negative impact on a country's economy can sometimes have a negative impact on that country's currency. When there is political or economical news released from a country, such as the United States, it tends to have a profound effect on the currency and in general, the Forex Market. 

Let’s take a look for example at the Unemployment Rate in the United States. This rate is released once a month, on the first Friday of every month and shows how many people are unemployed throughout the U.S. economy. This rate, when released, is also compared to the previous month’s rate and shows us if more or less people have found employment. When you look a little closer at this rate, it shows us whether the U.S. economy is growing or shrinking from day to day. Each time the unemployment report is released – one of two things usually to happen: If the report is positive, more than expected, this can indicate that the U.S. has created more jobs, therefore lessening the number of unemployed people – as a result the U.S. Dollar may rise. This is because investors think that if the U.S. economy is strengthening, so should the country’s currency – this urges traders to invest and buy the U.S Dollar. If the report on the other hand is a negative one, lower than expected, this can indicate that the U.S has a higher number of unemployed people in the economy. This situation tends to weaken the U.S Dollar. Trading during the unemployment rate announcement arguably is a highlight for many traders as it presents them with many opportunities. 

For example, let’s take a look at a hypothetical unemployment report that could have been released. 

Our report, released in August, shows that the numbers are going down compared to the previous month and is better than was expected. This signals to traders that the U.S. economy is strengthening, since the economy is creating more jobs for unemployed people.

Great news, right? Did you know that some traders have even made sums of up to $300on the day that the unemployment report was released! Keep in mind that we focused now on just one news event and also took into consideration investor’s expectations. 

On any given day, there can be several news or other events that could impact the Forex market and have an influence on currency pairs. Some tend to be more important than others yet they all present you with the opportunity to start trading. 

Now that we’ve covered some important points that you need to know when trading, let’s see if you can answer these 4 questions correctly (Please put your answers in the comment section. Right answers will be provided in the next blog):

1. The most popular traded currency pair is the:
• EUR/USD
• GBP/USD
• USD/JPY
2. Major currency pairs are those that are:
• Traded against one another
• The most difficult to buy and sell
• The most popular and are traded against the Dollar
3. Currency rates are usually effected by:
• The weather and different religious holidays
• Political and economical news
• Other currency rates
4. The Unemployment Rate in the United States is:
• Released once a month, on the first Friday and shows the number of unemployed people
• Released twice a month, and shows the number of people that have found employment during that month
• Released once a month, on the first of the month and shows how many people are employed