What Is Forex Trading?

Forex is an abbreviation of currency exchange rates. Currency exchange rates are simply the rate at which one currency is transferred to another currency, this conversion is constantly changing every day. For example, if the GBP/USD exchange rate is 1.2, this means if I wanted to exchange £100 to US dollars, I would receive $200.

Forex Trading is all about trading around these exchange rates, if you believe the GBP/USD exchange rates will push higher, you would buy GBP/USD contracts through a broker and profit from market exchange rates being higher than the exchange rate you have bought at. 

Can You Actually Make Money?

According to IG Markets, 76% of retail traders lose money, but don’t let this deter you. We must first understand why that percentage is high, and it comes down to one core reason – emotions. Typically, retail traders are actually successful in their currency analysis. However, due to the volatility of Forex markets, trades can go into drawdown and are subsequently closed too early resulting in unnecessary losses. Drawdown is the term we use to talk about a trade that is not currently in profit, this is quite typical due to the large volumes in foreign exchange markets. Traders see a position and automatically assume the worst; trading psychology is extremely important.

A lack of trading psychology can lead to revenge trading, this is where a trader will close a losing trade and immediately enter another trade to recoup losses, but this typically amplifies losses further and the cycle continues. 

How Do I Improve My Trading Psychology?

Ever heard of the saying ‘experience trumps all ?’, well this is just that. There are no courses that will teach you how to master trading psychology, this is something you can only learn through trading live money in the market. One of the biggest mistakes people make is assuming that trading with real money is the same as trading with demo/virtual money – it’s completely different.

With virtual funds, you have absolutely nothing to lose from a monetary point of view. In contrast with real live money, you are far more inclined to not stick to analysis and deviate from trading plans by closing trades early, taking riskier entries, chasing trends etc.

The key is risk management. If you reduce your risk to 1% on every trade, then this means that when your stop loss is triggered, you will only loose 1% of your account equity. A stop loss is a level where you decide to close a trade, because it has not reacted the way you have wanted it to. Loosing 1% on a trade is easily recoverable and this helps to train your mind over time, the more confident you grow, the greater % of risk you can use per trade.

Analysing Forex Markets

 There are two main ways to analyse Forex markets; these are fundamental analysis or technical analysis.

Fundamental Analysis

This involves understanding economies behind respective currency pairs, including paying close attention to macroeconomic data releases such as retail sales, central bank interest rate decisions, Government policy changes and geopolitical tensions. For example, in the case of GBP/USD, it suggested that you keep a close eye on decisions made by the Bank of England that will affect GBP currency strength and similarly, analysing decisions made by the Federal Reserve that has a direct impact on USD strength.

If macroeconomic data in the UK is significantly better than the US, along with a more supportive central bank stance, you could consider buying the GBP/USD exhange rate. By doing this, I am effectively going long on GBP and selling Dollars. Examples of key macroeconomic data releases are consumer confidence, unemployment rates, non-farm payroll announcements, business confidence, GDP readings, PMI’s and production data. You can find upcoming data through our economic calendar.

Technical Analysis

Technical analysis is the framework in which traders study price movement. The theory is that a person can look at historical price movements and determine the current trading conditions and potential price movement using historical price movements. For example, if you spot that every Friday for the last 3 weeks, EUR/USD has fallen sharply from a particular region, you would think that this could happen again for an upcoming Friday. 

These historical patterns take the form of various different chart patterns, such as support and resistance zones. A support zone is an area where price tends to rise from and vice versa for an area of resistance. There are more complex patterns, such as channels, head & shoulder formations, Fibonacci retracements etc. You can find out more about these types and how to use them in our education hub.

Different Types of Trades

In Forex markets, outright positions are the most popular with retail traders. This involves simply buying the spot (current market price) of an exchange rate. 

However, there are also various derivative instruments such as Forwards. A derivative is a financial product with its value composition formulating off an underlying asset. For example, you could have an orange derivative, which allows you to trade the value of oranges without having to physically buy them. Future currency exchange rate forecasts can be traded using forward contracts, this enables market participants to trade the forward value of a currency. For example, if you feel that GBP/USD exchange rates will fall in Q1 2021, you can sell January, February and March 2021 futures. There are also other derivatives such as swaps, but these are not often traded by retail traders.

Major Currency Pairs

All around the globe, the world’s primary currency pairs are traditionally the most popular currency combinations available on the market.

While the prices of these pairings can often fluctuate between tighter bands, there is still enough volatility in their movement to ensure the possibility of making serious money.

Learn more about the major currency pairs below.

What Are the Most Common Forex Pairs?

Forex Major Pairs

Perceptions across the globe tend to differ on what the definitive list of major currency pairings consists of, however, there is some consensus on what the four “majors” are;

There is also common agreement on what the three most-traded currencies are against the US dollar;

While it is a general rule of thumb that most lists will only include these seven major pairings, many traders will also include pairings which don’t contain the USD; these are known as “cross currencies”.

In this bunch, the most commonly traded are generally EUR/JPY, EUR/CHF and GBP/EUR.

This table provides more details about the majors and other cross currencies. 

PairCurrencies in the PairNickname
EUR/USDEuro and US dollarFiber
USD/JPYUS dollar and Japanese yenGopher
GBP/USDBritish pound and US dollarCable
USD/CHFUS dollar and Swiss francSwissie
AUD/USDAustralian dollar and US dollarAussie
USD/CADUS dollar and Canadian dollarLoonie
NZD/USDUS dollar and Canadian dollarKiwi
GBP/EURBritish pound and euroChunnel
EUR/CHFEuro and Swiss francEuro-swissie
EUR/JPYEuro and Japanese yenYuppy
Figure 1: List of the major currency pairings

The Four Majors

Every trader should be aware of the traditional major currencies, what factors have an impact on their price movement and when the best conditions are to trade them.

It is also important to note that while the four majors are traditionally – in other words historically – the most voluminously traded, they’re not always the most popular at any one period in time. For example, currently the AUD/USD pairing is in the top 4 for most traded currency pairings in the world, however it is not considered one of the four majors.

These pairings are the four traditionals (in no particular order):

  1. GPB/USD
  2. USD/CHF
  3. USD/JPY
  4. EUR/USD

We’ll address each of them in turn.

1. Trading GBP/USD

The base currency in this instance is the pound of Great Britain, and the US dollar is the quote. This means when you see this currency pairing’s price, it is showing how many US dollars you need in order to buy one pound.

Colloquially, the GBP/USD is known as “cable”, in honour of the deep-sea cables traditionally used to transfer pricing information between the two financial hubs of New York and London.

As a general rule, 14:00 (Greenwich Mean Time) is when liquidity tends to be most concentrated for this pairing, because this is the time of day when traders in New York and London are both active at the same time.

2. Trading USD/CHF

For many beginner forex traders it can look a little bit strange to see the Swiss franc has one of the world’s top four most traded currencies; Switzerland isn’t really among one of the major global economies (in contrast to the U.K., U.S., Japan or Europe).

However, similar to the Japanese yen (see below), the franc is so popular largely because of its stability, and consequent status as a supposed “safe-haven” investment. In times of economic turmoil (like the one we are currently in), the franc becomes increasingly popular with traders who see it as a low-risk market, similar to the USD/JPY pairing.

The reputation for stability in the franc comes from the traditional view of Switzerland as a safe economic haven, with financial stability, neutrality and overall safety as its cornerstones. As Switzerland is so geographically close to the eurozone, in times of low volatility the franc will tend to follow the movement of the euro. In times like this, purchasing the franc is less popular.

3. Trading USD/JPY

What you will immediately notice about this pairing is that the value of one pip is significantly larger than in the other currencies, with this pairing often only quoted to two decimal places.

This will happen with any currency pair the yen is the quote currency in as it has a relatively small value when compared to the dollar. This is in large part due to quantitative easing and general low interest rate policies adopted by the Bank of Japan. The BoJ takes these measures to try and combat a low inflation rate and slow growth, and as a result the country has had non-zero or even negative interest rates several times over the last two decades.

4. Trading EUR/USD

Our final pairing is the world’s most popular forex pair, which has the euro as its base and the US dollar as the quote. This means that if the price for EUR/USD was 1.3000, you would need to spend $1.30 USD in order to buy 1 euro.

As a result of its popularity, the EUR/USD pairing is highly liquid, and as a result most brokers offer tight spreads. The European and US economies are two of the largest in the world as well, so in general this pairing tends to have a very low volatility.

EUR/USD currency pair - one of the major currency pairs in the world
Figure 2: EUR/USD pair

The Commodity Currencies

The commodity currencies differ from the four majors we have already talked about in that they are individual pairings in which the price at any given time will largely depend on the value of a certain commodity on which the economy of the particular currency depends. Three of the most common commodity currencies, which will typically appear on any trader’s list of the majors, are:

  1. NZD/USD
  2. USD/CAD
  3. AUD/USD

1. Trading NZD/USD

This pairing is known as the “kiwi”. The New Zealand economy relies heavily on things like agriculture, tourism and international trade, which means the price movements of soft commodities will often impact heavily on the NZD/USD pairing.

The role of the central bank – as it is for most currencies – is essential as well. The Reserve Bank of New Zealand tends to set interest rates which can have a significant effect on the kiwi, particularly when those rates don’t line up with what the Federal Reserve is doing.

Traders intending to dabble in the kiwi need to keep themselves up-to-date with the policies of both central banks before entering a position on the NZD/USD pairing.

2. Trading USD/CAD

Oil is Canada’s major export, and hence the value of the Canadian dollar relies heavily on the price of oil. Consequently, should the price of oil change (which it often does thanks to constant changes in the world’s production quota) then it is reasonable to expect that the value of the CAD will change as well.

For example, should the Organisation of the Petroleum Exporting Countries (“OPEC”) increases the supply of oil its price will likely fall, and in turn this would pull the price of the Canadian dollar down with it. The same would be true should the opposite occur.

It’s also worth noting that as oil’s price is expressed in US dollars if the value of oil falls then the US dollar will strengthen and Canadian exporters would thus receive less money for their oil.

3. Trading AUD/USD

The value of coal and oil, as well as other metals such as copper, is essential to understanding the trade of AUD/USD. Any change in the value of these commodities is likely to cause a similar fluctuation in the Australian dollar’s value as opposed to the US dollar.

As with many other commodity currencies, the US dollar’s value has a large role to play in the trade of this pairing. If the US dollar strengthens then this often means Australian exports are available at cheaper prices, which means the value of the Australian dollar falls and – as with Canadian oil exporters – Australian producers receive less in return.

USD/AUD pairing
Figure 3: USD/AUD currency pairing

Cross Currencies

Essentially, a cross currency pair is any pairing that doesn’t contain the US dollar. Because of this, some traders won’t include these pairs in their major currency collections, however several cross currencies are widely regarded as majors. These include:

  1. EUR/CHF
  2. EUR/JPY
  3. GBP/EUR

Out of all the cross currencies these are the three which tend to have the most liquidity, because they are combinations of the traditional pairs (excluding USD).

1. Trading EUR/CHF

Like the GBP/EUR, this pairing pits together two very close-knit economies. As with most pairings involving the CHF, though, this pairing is traditionally very stable thanks to Switzerland’s low-volatility as an economy.

For example, to show the franc’s stability against the euro we can look to the European debt crisis which occurred in 2008. After this happened the franc actually strengthened, as savvy investors turned to it as a safeguard for their remaining capital.

The franc has a floating exchange rate, as opposed to in the past when it was tied to the euro by the Swiss National Bank. However, this does not affect its status as one of the safest currencies in the world.

2. Trading EUR/JPY

The euro is the world’s second biggest currency, which is why this pairing with the Japanese remains one of the market’s most popular.

The price of the yen is heavily influenced by market sentiment, as well as the volume of carry trades involving the yen.

The most liquid time for this pairing is between 8:00 and 15:00 (GMT) due to a crossover of European and Japanese timezones

This pairing is nowhere near as volatile as some of the other pairs on this list, but it still does provide traders with significant profit opportunities.

3. Trading GBP/EUR

This is a key cross currency which reflects the often fractious relationship between the euro and the British pound. In recent times this pairing has been particularly volatile, largely due to the UK’s 2016 decision to leave the European Union.

This pairing’s nickname is “chunnel”, which is supposed to represent the physical connection between Britain and mainland Europe via the Channel Tunnel (which links Dover with Calais).

There are many profit opportunities with the chunnel – either long or short – thanks to the volatility in this pairing brought upon by Britain’s continued struggles to actually leave the European Union.

What Factors Affect the Price of Forex Pairs?

Every forex pair will have a different and unique set of factors that influences its price, however in general, the types of things that can impact a pairing’s price are stuff like level of foreign investment in the market; geopolitical instability; interest rate hikes or cuts and the overall strength of a country’s economy.

Interest rates in particular can drastically affect certain pairings. Rates are controlled by each individual country’s central bank and that central bank’s monetary policies. By way of example, if the US Federal Reserve was to hike interest rates up, that will generally push the price of the US dollar to strengthen against the euro.

This happens because global investors tend to favour countries that have high interest rates against countries whose interest rates are low when they are looking for a place to put their money.

Geopolitical instability is also a huge factor on prices. If a country is in turmoil, investors and traders tend to lose faith in that country’s financial situation, particularly when the government is having trouble controlling its people. In countries with significant political trouble occurring, the economy tends to stagnate or it is too volatile to safely trade.

That being said, volatility shouldn’t be a complete turn-off. Some traders prefer a market that has constant movement because it allows the possibility of returning quick profits, whereas others prefer slow-moving, predictable markets. With the major currency pairings (discussed above), movements tend to be less frequent, although major political events or world crises (e.g. coronavirus) can cause them to fluctuate as much as any other market.

How Do I Trade the Major Currency Pairs?

1. Do your research before choosing any pairing

2. Analyse your chosen pairing closely, using both technical and fundamental methods

3. Ensure you have chosen a trading strategy, and have determined how comfortable you are with risk

4. Make an account with a broker and deposit your funds

5. Open, watch and eventually close your first position

6. Reap the rewards!

Frequently Asked Questions

Forex is not legal in every country, it’s banned in India, Belgium, North Korea, Malaysia, France, Bonsnia Herzegovina, Israel and countries with Islamic sharia laws such as Pakistan. Elsewhere in almost all other countries, it is completely legal. The reason why Forex is banned in certain countries, such as India, is to regulate foreign exchange rates in the domestic economy. Because India are large exporters, the economy heavily relies on exporting activity, the cost value of these exports is subject to currency exchange rates. For example, if the value of the Indian Rupee is too high, clients in the US may want to import goods elsewhere as you would need to spend more US dollars to attain the same Indian goods, purely on exchange rates. 

The other primary reason is for protection. There are some individuals who are new to Forex trading that do not understand the concept of leverage, and consequently, they quickly lose money. Moreover, the ability to trade on leverage can entice people to act in a gambling manner, rather than have sound risk management and a solid trading plan.

It’s possible through micro lot positions. A standard, one trading lot is composed of 100,000 units. Generally speaking, for every pip moved on a one Lot position, you gain $10. There are mini lots that are composed of 10,000 units, for every pip move you will gain $1. Micro lot positions are only 1,000 units and will give you $0.10/pip. Theoretically, you could trade 1 micro lot with 4-5% risk, your maximum loss would only be 4-5 dollars. However, a micro lot is far better, as it enables you to have wider stops and targets, enabling you to really hone in trading strategies. It will enhance your trading psychology with the use of real money, whilst ensuring that any losses are not detrimental.

Traders can place their trades at any time they desire, since there is always an open market somewhere in the world. When New York sleeps, Tokyo and Sydney are awake, and vice-versa. However, for day traders and scalpers specifically, they should focus on the most liquid time of a trading day, which is the overlap of the New York and London session.

This really depends on your trading preference. However, a good strategy is to have multiple positions for a single trade. For example, rather than having a single 1 lot sell on EUR/USD, break this down in 5 x 0.20 lot positions, this enables you to secure profit as prices move towards your target. It also enables you to quickly reduce risk if trades go against you.

The golden rule in Forex trading is not to risk no more than 2% of your account equity on a trade. You want your risk-to-reward ratio (RRR) to be 2. This means you risk 2% for a 4% gain, ideally you want this ratio to be 1 to 3, that is, risking 2% to make 6%. 

Beginners often try to predict the actual number of a market report losing money. prior to the number actually being released. Once they realise that forecasting the actual number of a report is almost impossible, they begin to close their positions ahead of important market events, such as the non-farm payroll announcements.

Fundamentals can be broadly grouped into micro-fundamentals and macro-fundamentals. News, headlines and reports such as the aforementioned ones are micro-fundamentals that have a relatively short impact on the markets. The trend of a currency pair isn’t changed by the report itself, but rather by the collective view of a large number of market participants who may start to question the current trend.

In essence, if you do not have a grasp of fundamentals and especially macroeconomics, you should either manage your risk before high impact events by placing stop losses at entry or closing the trade entirely. 

The Forex market is the single largest volume market in the world, and this means there are no liquidity issues. High liquidity levels make it easy to enter and exit positions almost instantly in major currencies. This is a strong advantage if you want to get in and out of risk quickly. With other markets, it’s not as simple, for example in equity markets. If you have a stock that is being heavily sold off, you might find it difficult to find a seller who will sell their shares to you.

The Forex market is open 24/7, 5 days a week and some brokers, such as IG Markets, even offer weekend trading. There are plenty of trading opportunities and considerable volumes in the market to provide preferable trading conditions 

Banks, dealers, institutions and brokers provide high leverage levels for Forex trading. Leverage allows a trader to trade with more capital than they deposit in an account. For example, if you had £100 and a 2:1 leverage, you have £200 worth of purchasing power. However, it’s crucial to know that this isn’t ‘free money’. By trading with increased purchasing power, you risk losing money much faster. Trading on leverage can be an advantage for those that are experienced professional traders with a sound strategy and risk management principles.  

Many traders fail, due to a variety of reasons, such as lack of knowledge, lack of practise, greed, lack of risk management strategies, or even by focusing too much on technical analysis. You need to also have a sound understanding of economic fundamentals and indicators, as well as risk management tools and strategies.

Setting up a Forex trading account is very easy; you simply need to create a trading account with a broker. A broker is essentially a middle man, and they will connect you with buyers and sellers in the Forex market. A supermarket, for example, is a broker.The supermarket acts as an intermediary between producers and consumers, bringing buyers and sellers together.

There are a variety of brokers you can use; however, it is important to bear in mind that some brokers are not regulated . We highly recommend you sign up to one of our recommended brokers. Each broker listed is highly reputable and safe to use.