How Forex Trading Works - The Basics
Forex traders buy and sell currencies. The logic is simple, as with any investment activity your aim is to buy something that is going to increase in value - then sell it on at a profit. So that famous phrase "buy low now and sell high later" applies to the forex market as much as to other financial markets. In forex though, you can also "sell high now and buy low later". In forex it does not matter whether the price movement is upwards or downwards - any price movement provides a chance to take a profit.
So, the aim in forex is to exchange one currency for another having ascertained that there will be a price change in your favour
In the forex market the exchange rates are always quoted in currency pairs and all currencies are identified by a three letter acronym. So the American dollar is 'USD', the Australian dollar is 'AUD', British pound is 'GBP', the Euro is 'EUR' and so forth. The first currency that is named in a currency pair is called the base currency and the second one (to the right of the slash) is called the counter (or sometimes quote) currency.
Eg : EUR/USD = 1.3885
When you enter a BUY trade, the exchange rate tells you how much you will pay in the counter currency to buy one unit of the base currency. So, EUR/USD = 1.3885 means that you would pay 1.3885 American dollars for one Euro.
Conversely, in a SELL trade, the rate tells you how much of the counter currency you will get for each unit of the base currency that you well. In this case, EUR/USD = 1.3885 means that you would receive 1.3885 dollars for one Euro.
The base currency is well named as it is the basis for either the buying or selling of a currency. When you are considering a trade you would open a BUY position if you think that the base currency will increase in value against the counter currency - and you would open a SELL position if you think that the base currency will decrease in value against the counter currency.
Of course, if you are not sure you would not open a position. As stated at the beginning of this article - trading logic is simple as are the mechanics of trading. But how you make a BUY or SELL decision is the true wisdom of forex trading.
It is very important for new traders to get to grips with the basics - how to read a currency quote and how to apply this to the trading platform. This is what a practice account is for – it is advisable to spend some time on your practice account and read as much advice and as many trading tips as you can before you switch to trading with real money.
To open a "practice account" and to later, when confident and you have gained some experience, do your own Forex trading, try the eToro online Forex Trading Platform.
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This information is provided courtesy of eToro.