What Exactly Is Forex?
The foreign exchange market (forex, FX, or currency market) is a, worldwide-decentralized
financial market where the trading of global currencies takes place.
The foreign exchange market is the most liquid financial market in the world and is made up of
traders from central banks, institutional investors, currency speculators, corporations,
governments, and retail investors. The average daily turnover in the global foreign exchange and
related markets continues to grow. According to the 2010 Triennial Central Bank Survey,
coordinated by the Bank for International Settlements, average daily turnover was US$ 3.98
The Forex market alone is approximately three times the total amount of the US Equity and
Treasury markets combined. It operates through an electronic network of banks, corporations,
institutional investors, and individuals trading one currency for another.
Unlike other financial markets, the forex market has no physical location or central exchange.
It’s an electronic OTC ( over the counter ) market where buyers / sellers conduct business. The
lack of a physical exchange enables the FX market to operate around the clock, spanning the
various time zones where major financial centers are based.
The Forex trading day begins first in Tokyo, then proceeds to London and New York. The
unmatched liquidity and around the clock global activity make forex the ideal market for active
In the past, only the big speculators and investment funds could trade currencies, but thanks to
retail forex brokers and the Internet, this isn't the case anymore.
Today, anybody with a computer and an internet connection can sign with a broker, open up and
fund a live account, then trade forex from the comfort of their own home.
The FX market plays a key role in transferring financial payments and funds across borders from
one source to another. This international market plays an extensive and direct role in national
economies and has a major impact that affects both our lives and prosperity.
There are two major reasons that make up the transfer of currencies:
1) About 5% of daily turnover is made up of companies and governments that buy or sell
products and services in foreign countries. Profits made are converted back into their domestic
2) The other 95% is trading for profit or speculation, which translates to the tremendous profit -
potential in this highly lucrative market.
The Anatomy of the Fx Market
The forex market is organized into a hierarchy, of participants with different ranking.
The standards that determine the participants’ positions are credit access, volume of transactions,
and their level of sophistication; those with the highest ranking receive priority in the forex
market. At the top of the hierarchy is the interbank market, which generates the highest volume
Interbank is a credit-approved system where banks trade on the sole basis of their credit
relationships with one another. In the interbank market, the largest banks
are able to trade with each other directly, via interbank brokers or through electronic brokering
systems such as Reuters and EBS.
While all the banks can see the rate that everyone is dealing at, each bank has a specific credit
relationship with the other bank and trade at the rates being offered.
Other institutions in the market, such as corporations, online FX market makers, and hedge funds
trade forex through commercial banks.
Commercial and investment banks account for the largest portion of FX trading volume. The
lnterbank market caters to both the majority of commercial turnovers as well as enormous
amounts of speculative trading every day. Their primary role in the FX market is essentially
selling currencies, as other participants execute trades through them. Banks trade currencies
because it is highly lucrative and it limits their credit exposure on Letters of Credit.
Central banks play a significant role in the FX market as they can influence spot price
fluctuations. Central banks generally don’t speculate in currencies, instead, they use currencies to
promote acceptable trading conditions to the banking industry by affecting money supply and
interest rates through open market operations or the active trading of government securities.
Central banks often attempt to restore order to volatile markets through interventions. The
reasons for central bank interventions may be a result of a variety of factors. They may attempt
to provide stability, protect a certain price level, slow down currency movements, or to reverse a
The Federal Reserve Board (Fed) is the central bank of the United States. They are responsible
for setting and implementing monetary policy.
The European Central Bank (ECB) is the governing body responsible for determining the
monetary policy of the countries participating in the European Member Union (EMU).
Corporations’ main interests in foreign exchange are to perform transactions related to cross
Global and hedge fund managers, large mutual, pension, and arbitrage funds also invest in
foreign securities. These groups invest in foreign financial instruments that are relatively small.
Although they may be small when compared to other market participants, they are the most
Forex Trading Hours
The major financial centers around the world overlap due to their time zones. Each business day
begins in Wellington, New Zealand, then Sydney, Australia. The next region to open is the
Asian markets starting with Tokyo, Japan, Hong Kong, China, and finally Singapore. A few
hours later the markets will open in the Middle East and when the markets in Tokyo are starting
to wind down, Europe will open for business.
Finally, New York and the other major U.S. centers start their trading day. By late afternoon in
the United States, the next day arrives in the Western Pacific areas and the process begins again.
The FX market is opens Sunday at 5:00 pm EST and continues without interruption until 5:00pm
Tokyo, London, and New York represent almost 70% of the world’s FX volume.
Foreign exchange activity tends to be the most active when markets overlap, particularly when
the major European markets overlap the U.S markets.
Tokyo is the first major market to open, and many large participants use it to get a read on
dynamics or to begin scaling into positions. Approximately 10% of all FX trading volume takes
place during the Tokyo session
London is by far the most important and influential FX market, with approximately 30% of all
worldwide transactions. Most big bank’s dealing desks stem from London and the market is
responsible for roughly 28% of the total world spot volume. London tends to be the most orderly
market due to the large liquidity and ease of completing transactions. Most large market
participants use London hours to complete serious foreign exchange deals.
New York is the second most important market that represents approximately 16% of total
worldwide market volume. In the United States spot market, the majority
of deals are executed between 8am and 12pm, when European traders are still at their desks.
Trading often becomes slower in the afternoon as liquidity dries up. There is a drop of over 50%
in trading activity since California never served to bridge the gap between the U.S. and Asian
sessions. As a result, traders tend to pay less
attention to market developments in the afternoon. New York is greatly affected by the U.S.
equity and bond markets, thus the pairs will often move closely in tandem with the capital
What do we trade with?
Primarily, the forex market is a trader’s market. You don’t have to be a millionaire to become a
forex trader. Unlike most financial markets, the forex market allows you to start trading with
relatively low initial capital. It is easy to see how large sums of money can be made when you
utilize the available leverage associated within the currency market. Later, we will explain to
you how it works.
What do we trade with? The simple answer is money!
Most traders trade currencies, which are quoted in pairs. It is possible to trade with other
instruments, for example: gold, silver, oil etc.
In this first round of introduction to FX we will explain how to trade currency pairs.
1. The Major Currency Pairs
The U.S. Dollar
The United States dollar is the world's main or “base” currency. All currencies are
generally quoted in U.S. dollar terms. The U.S. dollar became the base currency toward the end
of the II World War. The United Nations Monetary Fund convened in Bretton Woods, New
Hampshire, with representatives from the United States, Great Britain and France. The Bretton
Woods Accord established the policy of pegging currencies against the U.S. dollar in order to
stabilise the global economy. It set fixed exchange rates for major currencies and subsequently
established the International Monetary Fund (IMF). With the introduction of the Euro in 1999
The overall power of the US Dollar decreased marginally.
The six major currencies traded against the U.S. dollar are the Euro, Japanese Yen, British
Pound, and Swiss Franc Australian Dollar and Canadian Dollar.
The Euro is the currency used by the institution of the European Union and is the official
currency of the Eurozone, which consists of 17 of the 27 member states of Austria, Belgium,
Cypres Estonia, Finland France Germany, Greece, Ireland, Italy, Luxumbeg, Malta, the
Netherlands, Portugal, Slovakia, Slovenia, and Spain. The euro is the second largest reserve
currency as well as the second most traded currency in the world after the United States Dollar
The Japanese Yen
The Japanese yen is the 3rd most traded currency in the world; it has a much smaller
international presence than the U.S. dollar or the euro. The yen is much more sensitive to the
fortunes of the Nikkei index, the Japanese stock market, and the real estate market.
The British Pound or “Cable”
Until the end of World War II, the pound was the currency of reference. It is one of the oldest
currencies in the world. In the 19th century the exchange rate between the U.S. dollar and British
pound was transmitted across the Atlantic by a large cable that ran across the ocean floor
between the two countries. The currency is heavily traded against the euro and the U.S. dollar.
After the introduction of the Euro, the Bank of England has been atempting to bring the high
U.K. rates closer to the lower rates in the euro zone.
The Swiss Franc
The Swiss franc is the only currency of a major European country that belongs neither to the
European Monetary Union nor to the G-7 countries.
Although the Swiss economy is relatively small, the Swiss franc is recognized a safe haven
Canadian & Australian Dollars
Both Currencies are regarded as resource base currencies. The Canadian dollar depends on its
main trading partner – the U.S. and the Australian depends on its main trading partner – China
2. Mostly Traded Currency Pairs
Forex trading is the simultaneous buying of one currency and selling another. Currencies are
traded through a broker or dealer, and are traded in pairs; for example the euro and the U.S.
dollar (EUR/USD) or the British pound and the Japanese yen (GBP/JPY).
The objective of currency trading is to exchange one currency for another with the expectation
that the market rate or price will change in the direction of your expectation. Currencies can be
bought (Long) or sold (Short) against each other and with the move in the currency values you
may experience a profitable or loss position..
3. Base and Counter
It is an important thing to know the construction of your currency pair. In a pair of currencies,
the first currency is known as the base (dominant) currency, and the second one is referred to
as the counter or quoted (subordinate) currency.
The base currency is what you’re buying or selling. The counter currency is the denomination of
the price fluctuations and, ultimately, what your profit and losses will be denominated in. If you
buy GBP/USD, it goes up, and you take a profit, your gains are not in pounds, but in USD.
Methods to Trade Forex
Now that you know some basics, we can introduce you to the various vehicles to trade forex.
There are four ways of trading forex:
Spot trading market
Currency spot trading is the most popular foreign currency instrument around the world, making
up 37 percent of the total activity.
The fast-paced spot market is not for the fainthearted, as it features high volatility and quick
profits (and losses).
A transferable futures contract specifies the price at which a currency can be bought or sold at a
future date. Currency futures contracts allow investors to hedge against foreign exchange risk.
An "option" is a financial instrument that gives the buyer the right or the option, to buy or sell an
asset at a specified price on the option's expiration date. If a trader "sold" an option, then he or
she would be obliged to buy or sell an asset at a specific price at the expiration date.
Currency options are unique trading instruments, equally fit for speculation and hedging. More
factors affect the option price relative to the prices of other foreign currency instruments. Unlike
spot, both high and low volatility may generate a profit in the options market.
In the currency markets, options are available on either cash or futures. It follows, then, that they
are traded either over-the-counter (OTC) or on the centralized futures markets.
Exchange-Traded Funds (ETFs)
Exchange-traded funds or ETFs are the latest option of trading forex. An ETF could contain a set
of stocks combined with some currencies, allowing the trader to diversify with different assets.
These are created by financial institutions and can be traded like stocks through an exchange.
Like forex options, trading ETFs is limited to the times that the future market is open. Also,
since ETFs contain stocks, these are subject to trading commissions and other transaction costs.
Determining Which Way The Market Is Going
Here is the Million dollar question. The trick to making a fortune trading currencies is
understanding how the market moves and deciphering the market trend or direction.
Two types of analysis are used to forecast market movements: fundamental, and technical.
Technical analysis is the study of historical price action and volume data for the purpose of
forecasting future market trends. This type of analysis focuses on the chart formations to analyze
major and minor trends. It helps to identify buying/selling opportunities by assessing the extent
of market reversals.
Technical analysis can be used on an intraday 5 minute, 15 minute, hourly, weekly, or monthly
basis. The greater the timeframe the more accurate the trend is depicted.
Depending on the level of complexity, technical analysis may involve price charts, volume
charts, and many other mathematical representations of market patterns. As you advance in your
technical trading skills, technical indicators and mathematical ratios may be added to the charts
to form a more comprehensive analysis of the market. Therefore, rather than merely relying on
price charts, technicians may also use other tools in aid of forecasting future market values.
Currencies rarely spend much time in tight trading ranges and have the tendency to develop
strong trends. Over 80% of volume is speculative in nature and as a result, the market frequently
overshoots and then corrects itself. A technically trained trader can easily identify new trends
and breakouts, which provide multiple opportunities to enter and exit the market.
Two Major Forms of Technical Analysis
Technical analysis can be further divided into two major forms:
Quantitative Analysis: uses various statistical properties to help assess the extent of an
Chartism: uses lines and figures to identify recognizable trends and patterns in
The formation of currency movements. There are hundreds of indicators to choose from to help
you identify potential price movements but it we recommended you try to keep these indictors to
a minimum in order not to confuse.
Follow the trend
Trend analysis is based on the idea that what has happened in the past gives traders an idea of
what will happen in the future.
Being able to identify when a pair is in a trend and when it isn't will help you to increase your
chances to profit consistently.
Once you identify a trend, you can with reasonable assurance, decide what direction the currency
pair is going to go in. Once you have determined this direction you should only place trade that
follow that direction.
If it’s an uptrend, meaning that the rate is increasing, buying the currency pair will give you a
better probability for success.
If it’s a downtrend, meaning that the rate is decreasing, selling the currency pair will give you a
better chance of making money.
The simplest way to identify a trend is through the distinct patterns that the price action reveals.
These can tell you if the market is moving in an uptrend or downtrend.
When a trend is taking place in a Forex pair, the price movements on the chart begin to form
peaks and valleys.
In an uptrend, the price movements form a series of higher peaks and higher valleys. Let’s take a
look how that works
The opposite of the uptrend is of course the downtrend. In a down trend, the price movements
form a series of lower peaks and lower valleys
A sideways trend indicates a consolidation period in which prices are moving within a narrow
range. In other words, the value of currencies is not appreciating or depreciating in value. The
direction in further price movement is yet to be determined.
The Trend Reversal How to Identify It
The most significant trend reversal patterns are:
Head-and-shoulders and inverse head-and-shoulders.
Double tops and double bottoms.
Triple tops and triple bottoms.
The head-and-shoulders pattern is one of the most reliable and well known chart formations. It
consists of three consecutive rallies.
This pattern consists of three peaks of price movement, resembling the outlines of a head and
shoulders. The three peaks of price movement are characterized by the following:
1. The currency price rises to a first peak and then declines – THE FIRST SHOULDER
2. The same currency price rises again, this time to a higher level that the previous peak
point, and then decreases – THE HEAD
3. The currency price rises for a third time, but do not move above the second (the head)
peak, then decreases – THE SECOND SHOULDER
All three rallies are based on the same support line (or on the resistance line in the case of the
reversed head-and-shoulders formation), known as the neckline.
The head-and-shoulders formation provides excellent information so called signals which can
lead you perfectly through your trading session. Those for signals are:
1. The support line.
2. The resistance line.
3. The price direction,
4. The price target.
The Inverse Head-And-Shoulders
The inverse head-and-shoulders formation is a mirror image of the previous pattern.You can
apply the same characteristics, potential problems, signals, and trader's point of view
The three peaks of price movement are characterized by the following movements:
Left Shoulder - a falling in price to a low point, followed by a rise in price.
Head - currency price decreases down way below the left shoulder and then rises again.
Right Shoulder – A currency price fall for a third time, and then rises again.
The neckline – The base line which connects the highest points, on the chart.
4. Double Top
Another very reliable and common trend reversal chart formation is the double top. As the name
clearly describes, this pattern consists of two tops (peaks) of approximately equal heights.
The Double Top is a bearish reversal pattern than involves the market making two highs at
approximately the same level.
A typical double top starts with a gradual rise in the price of a currency, followed by a drop and
then another rise to about the same level as the original rise. Finally, we see another substantial
drop off from the second high. The double top pattern should resemble the letter "M".
The intervening low between two highs defines the pattern’s neckline, which will be drawn
parallel to another line that is typically drawn between the two highs.
After the first peak, a trough takes place that typically ranges from 10 to 20%. It is important that
you can identify two distinct peaks at this point. Peaks and troughs don’t need to be identical as
long as the M shaped pattern shows a flattening in the momentum of the trend.
On the other hand we have opposite trend reversal formation called double bottom
The Double Bottom is a bullish reversal pattern than involves the market making two lows at
approximately the same level.
The intervening high between these two lows defines the pattern’s neckline, which will be
drawn parallel to another line that is typically drawn between the two lows.
The double bottom usually forms after an extended downtrend. It is made up of two
consecutive troughs that are roughly equal, with a moderate peak in between.
Prior Trend: A significant downtrend of several periods should be in place.
First Trough: The lowest point of the current trend, fairly normal in appearance and the
downtrend remains firmly in place.
Peak: An advance after the first trough, typically 10 to 20%. Volume is usually
inconsequential, but an increase could signal early accumulation. The high of the peak is
sometimes rounded or drawn out a bit from the hesitation to go back down. This hesitation
indicates that demand is increasing, but still not strong enough for a breakout.
Second Trough: The decline off the reaction high usually occurs with low volume and
meets support from the previous low. Support from the previous low should be expected.
Even after establishing support, only the possibility of a double bottom exists, it still needs to
be confirmed. The time period between troughs can vary from a few weeks to many months,
with the norm being 1-3 months. While exact troughs are preferable, there is some room to
maneuver and usually a trough within 3% of the previous is considered valid.
Advance from Trough: An accelerated ascent, perhaps marked with a gap or two, also
indicates a potential change in sentiment.
Resistance Break: Breaking resistance from the highest point between the troughs completes
the double bottom. Volume should increase on breakout and/or accelerated ascent should
Resistance Turned Support: There is sometimes a test of this newfound support level
(broken resistance) with the first correction. Such a test can offer a second chance to close a
short position or initiate a long.
Price Target: The distance from the resistance breakout to trough lows can be added on top
of the resistance break to estimate a target.
The triple top chart pattern represents a combination of the head-and-shoulders and the
double-top trend reversal formations.
The triple top formation consists of three tops that have reached almost the same price levels as
previous attempts .
The first step is the creation of a new price top. During the price move it hits a particular
level, and fails to break above it. This level becomes know as a Resistance level. The price then
retreats to an earlier price point in the chart. Here the price hold or fails to break below. This
level becomes known as a level of Support. This action then occurs 2 more times.
Once the third attempt has failed to break above the resistance line, the buying action becomes
exhausted and the sellers take over and push the prices back and below the level of support. The
price will now look for the next level of support and attempt the march higher.
The Triple bottom is simply the Triple Top in reverse.
The triple bottom can be a sign of a major reversal and can be formed after an extended
downtrend. This pattern is confirmed when the currency pair price breaks from below, through
the neckline, thus implying that the next price moves will be in an up.
Levels Of Consolidation Or Accumulation
Currency price movements can usually be put into two main categories”
The Rally Phase and
Consolidation or Accumulation Phase (also known as congestion).
During the rally phase, the Bulls (buyers) have the upper hand over the Bears (sellers), and
during their enthusiasm prices in the currency strengthen and increase. Once a particular price
point is reached where the Bulls have run out of buying steam and the Bears are reluctant to
begin to sell the currency , price action then goes into a level of Consolidation
During the consolidation phase, the enthusiasm of both buyers and sellers of both sides of a
currency pair becomes more balanced, as neither one is able to win out over the other.
Eventually, one side will dominate and another trend will begin in one direction or the other.
Price action during this stage will see the moves in a tight range moving back and forth in a
narrow channel until the cycle is broken.
Continuation patterns identify a pause in trading after the market experiences sharp trends. Such
periods of consolidation are usually quite short and often slope against the original trend. In
contrast, breakouts occur in the same direction as the original trend.
Technical analysis provides charts that reinforce the current trends. These chart formations are
known as continuation patterns. They consist of fairly short consolidation periods. The breakouts
usually occur in the same direction as the original trend.
The most important continuation patterns are:
The flag formation provides signals for direction and price objective.
This formation represents a brief consolidation period within a solid and steep upward or
The consolidation itself is contained by a support, and resistance line, which are parallel to each
other or very mildly converging, making it look like a flag (parallelogram). These patterns tend
to be sloped in the opposite direction from the slope of the original trend. The previous sharp
trend resembles a flagpole
Pennants are closely related to flags. The same principles apply. The main difference is that the
consolidation area better resembles a pennant, as the support and resistance lines converge. If the
original trend is bullish, then the chart pattern is a bullish pennant.
Triangles can be visualized as pennants with no poles.
There are four types of triangles:
3. Descending, and
4. Expanding (broadening).
A symmetrical triangle consists of two symmetrically converging support and resistance lines,
defined by at least four significant points
The two symmetrically converging lines indicate that there is a balance between supply and
demand in the currency pair. Consequently, a break may occur on either side. In the case of a
bullish symmetrical triangle, the breakout will occur in the same direction, qualifying the
formation as a continuation pattern.
The ascending triangle consists of flat resistance line and a rising support line. The formation
indicates that demand is stronger than supply. The breakout should occur on the upside, and it
consists of the width of the base of the triangle as measured from the breakout point.
The descending triangle is simply a mirror image of the ascending triangle. It consists of a flat
support line and a downward sloping resistance line. This pattern indicates that supply is larger
The currency is expected to break on the downside. The descending triangle also provides a price
objective. This objective is calculated by measuring the width of the triangle base and then
transposing it to the breakpoint.
The expanding (broadening) triangle consists of a horizontal mirror image of a triangle, where
the tip of the triangle is next to the original trend, rather than its base.
If we expand the trend line theory and draw a parallel line at the same angle of the uptrend or
downtrend, we will have created a channel. Channels are just another tool in technical analysis
that we can use to determine possible places to buy or sell.
Both the tops and bottoms of channels represent potential areas of support or resistance.
To create an up (ascending) channel, draw a parallel line at the same angle as an uptrend line
and then move that line to position where it reaches the most recent peak.
To create a down (descending) channel, simple draw a parallel line at the same angle as the
downtrend line and then move that line to a position where it touches the most recent valley
Support and Resistance
The upper and lower levels of the trade channel form lines of Support and Resistance.
There are areas where price action moves up and then seems to top out. From here, price action
begins to move lower. This levels represents an area at which the selling pressure exceeds the
buying pressure. These points are known as a level of resistance.
Inversely, where price action moves down and stops at certain points we can conclude that, the
buying pressure has overpowered selling pressure. Prices will now begin to move up. This point
is known as a level of support. The longer the prices bounce off the support and resistance
levels, the more significant the trend becomes.
After having bounced off the points of support or resistance, once the level is breached, support
will become resistance and resistance will become support . As you can see from the diagram,
prices have bounced below the red line or resistance, but once the level is overcome, that
resistance level becomes support.
Chart Reading Basics
In the trading world technical analysis plays a great part. The first thing that comes to mind is a
chart. Technical analysts study charts because they offer an easy way to visualize historical data!
Charts are used to show the correlation between the value of the base and quoted currencies.
The following charts are in the format in which you would see them on an actual computer
screen. In these charts, the changing currency is the quoted currency.
Price action is plotted out in a graph form that maintains a relative scale.
A day or intraday trader may trade in very short time frames of minutes and hours. Traders have
the option of choosing a variety of time frames to base their strategies on.
Before you start any trading, you need to know how to what your chart set up is telling you.
Lines and/or candles can at time move very quickly. Chart can be viewed in different forms.
Line charts, Candlestick and Bar charts are among the most popular .
Usually on a line chart, the openings, highs, and lows are ignored. Only the closing price is
plotted. A continuous line, with various peaks and valleys, joins the closing prices. The line chart
offers less visual information than other charts; however, it’s much easier to spot trends and
reversal patterns thanks to this one.
Candlestick chart was developed in Japan many centuries ago by rice traders and basically
provides the same information as bar charts. A candlestick or candle consists of a vertical
rectangle, and often, a vertical line on top of the candle (wick) and a vertical line below the
Vertical lines on the top and bottom are also referred to as the upper shadow and the lower
The rectangle itself is known as the body, which represents the pricing activity between the
opening and closing prices.
If the opening price is higher than the closing price, the opening price is recorded at the top of
the body and the closing price at the bottom; the candle is displayed in a solid red body.
When the opening price is lower than the close, the opening price is recorded at the bottom of the
body and the closing price at the top; the candle is displayed with a solid blue body.
The biggest advantage of using candlesticks is that they can make it easier to spot certain price
patterns that may not be as apparent in other charts
There are few different types of candlesticks that are extremely common in the forex market.
These candlesticks are as follows:
Doji candle shows when the opening and closing prices are identical.
Spinning top shows a very small trading range.
Bullish Hammer shows the opening and closing near the high.
Bearish Shooting star shows the opening and closing near the low
The bar chart is one of the most popular type of chart currently in use. It consists of four
the high and the low prices, which are united by a vertical bar;
the opening price, which is marked with a little horizontal line to the left of the bar;
the closing price, which is marked with a little horizontal line to the right of the bar.
The opening price is not always important for analysis.
Bar charts have the obvious advantage of displaying the currency range for the period selected.
An advantage of this chart is that, unlike line charts, the bar chart is able to plot price gaps that
are formed in the currency futures market. Although the currency futures market trades around
the clock, physically it is open for only about a third of the trading day. (Chicago IMM is open
for business 7:20 am to 2 pm CDT.)
Price gaps may occur between two days' price ranges. Incidentally, the barchart is the chart of
choice among currency futures traders.
Indicators, are mathematically designed tools that provide a more objective view of price
activity and attempt to assist a trader in determining the next price moves in the market.
There are many types of indicators available, but we will cover some of the more common ones.
Moving averages - Trend-following indicators are known as lagging indicators, which means
they typically turn after the price move has occurred.. They are most useful when markets are
trending, but when the markets are rallying or flat, they may give false signals.
Oscillators - are considered leading indicators and typically turn before price movement have
happend. They work best in rallying or choppy markets, but give false signals in trending ones.
Moving Averages - Moving averages (MA’s) are trend-following indicators that are the most
popular among all technical indicators. They are lines overlaid on a chart indicating long term
price trends, with short term fluctuations smoothed out. Moving Averages or MAs display the
average price in any given point over a defined period of time.
They are called moving because they reflect the latest average, while adhering to the same time
Moving averages are important technical indicators because they eliminate minor fluctuations
and provide traders with a clear depiction of price over a length of time. MA’s are widely used
because they are easy to understand and calculate. Most trading platforms offer these indicators
on the system , making it easy for the trader to apply them.
There are three kinds of mathematically distinct moving averages:
The Simple Moving Average is the most basic of all moving averages. A simple moving
average assigns equal weight to each price point over the specified period. The FX trader defines
whether the high, low, or closing price is used and these price points are added together and
Weighted Moving Average does not assign equal weight to all values in the data series; it can
either assign more weight to the front or back.
A front-weighted moving average gives greater weight to the newest data and a back-weighted
moving average gives greater weight to the oldest data. A weighted moving average is more
often used when giving more emphasis to the latest data. A weighted MA multiplies each data
point by a weighting factor, which differs from day to day. These figures are then added and
divided by the sum of the weighting factors.
Exponentially Smoothed Moving Average these are the most commonly used among all three.
Instead of assigning equal weight to all data, it puts an emphasis on the most recent data. The
exponentially smoothed MA considers data in the entire life of the instrument.
Since it is mathematically smoothed, it generates a more stable moving average line. The
mathematics behind this indicator is relatively more complex than the previous two types of
moving averages. The EMA multiplies a percentage of the most recent price by the previous
period’s average price.
Mostly used MA’s among all are 200-day, 100-day, 50-day, 20-day, and 10-day moving
averages. While a longer term moving average can help to define and support a particular trend,
shorter term MA’s can provide lead signals that a trend is ending before prices dip below your
longer term moving average line.
Bollinger Bands are another trend-following indicator used to identify extreme highs or lows in
relation to market price. Sometimes currency prices appear to remain in a range for extended
periods of time. Some people use an upper boundary and a lower boundary to define the range.
Bollinger Bands, establishes trading parameters, or bands, based on the moving average and a set
number of standard deviations around this moving average.
The Bollinger Bands include 3 lines:
The upper and lower bands are, respectively, the center line plus or minus twice the standard
deviation; this statistically implies that 95% of price movement should be contained between the
The centerline is simply the moving average, also known as the period in the Bollinger Bands
Bollinger Bands can also be describes as 2 elastic bands. The price moves in between the top
and bottom bands but when price moves far enough above thelines, the bands will, similar to a
stretched elastic, snap[ the price back down to continue between the already established lines.
Oscillators are designed to provide signals regarding overbought and oversold conditions.
Their signals are mostly useful at the extremes of their scales and are triggered when a
divergence occurs between the price of the underlying currency and the oscillator. Crossing the
zero line, when applicable, usually generates direction signals.
Examples of the major types of oscillators are
relative strength index (RSI).
Technical Indicator Stochastic Oscillator compares current closing price with its price range for a
certain time period.
The Indicator is indicated as two lines:
The %K line is usually indicated as a firm line and the %D line is usually displayed as a dotted
There are three the most popular ways to interpret a Stochastic Oscillator.
s a rule 20) and then
rises above this level. Sell when the Oscillator rises above a certain level (as a rule 80) and then
falls below this level;
For example: prices form a series of new highs and the Stochastic Oscillator is failing to surpass
its previous highs.
For those interested in the technical side of the indicator, the formulas for calculating the
%K = [(CCL -L9)I(H9 - L9)] * 100, where
CCL = current closing price
L9 - the lowest low of the past 9 days
H9 - the highest high of the past 9 days
and %D=(H3/L3~) * 100,
where H3 = the three-day sum of (CCL - L9)
L3 = the three-day sum of (H9 - L9)
The resulting lines are plotted on a 1 to 100 scale, with overbought and oversold warning signals
at 70% and 30%, respectively.
The buying (bullish reversal) signals occur under 10 %, and conversely the selling (bearish
reversal) signals come into play above 90% after the currency turns.
How it looks at the chart:
MACD - Moving Average Convergenc Divergence
This technique is one of the most often used by the different simulator software as performing
the technical analysis of stock trend using this method is easy and very straight forward.
General usage of the MACD, a particular example of a Value Oscillator, is detecting price trends
through forex market closing prices.
The MACD consists of two exponential moving averages that are plotted against the zero line. In
case of MACD growth the prices go up and they go down while MACD decreases.
The zero line represents the times the values of the two moving averages are identical
Momentum is an oscillator designed to measure the rate of price change, not the actual price
level. This oscillator consists of the net difference between the current closing price and the
oldest closing price from a predetermined period.
The formula for calculating the momentum (M) is:
CCP - current closing price
OCP - old closing price for the predetermined period.
The new values thus obtained will be either positive or negative numbers, and they will be
plotted around the zero line. At extreme positive values, momentum suggests an overbought
condition, whereas at extreme negative values, the indication is an oversold condition.
The momentum is measured on an open scale around the zero line.
Relative Strength Indicator (RSI)
The most popular oscillator is the relative strength indicator. It was created by J. Welles Wilder
Jr. to measure the strength or momentum of a currency pair.
This indicator is calculated by comparing a currency pair’s current performance against its past
performance or its up days versus its down days.
RSI is plotted on a vertical scale that measures from 0 to 100.
An RSI above 70 indicates an overbought condition, which would suggest a sell signal.
An RSI below 30 represents an oversold condition, which suggests a buy signal.
Moreover, a sell signal is indicated when the market price is high and the RSI value begins
declining. Inversely, a buy signal is indicated when market price is low and the RSI value begins
The RSI can be adjusted to various levels of time sensitivity. Depending on the style of trading,
the RSI can be customized to suit the trader’s needs.
For instance, a 5-day RSI is very sensitive and tends to give many signals that may not all be
On the other hand, a 20-day RSI tends to be relatively less choppy and give fewer signals. Long-
term or position traders may find that shorter time frames used for an
perhaps lead to over-trading.
Shorter time frames are probably ideal for day traders who are seeking to capture the shorter-
term price fluctuations
The Fibonacci analysis gives ratios which play important role in the forecasting of market
movements. This theory is named after Leonardo Fibonacci of Pisa, an Italian mathematician
who wrote the theory the year 1202.
Fibonacci retracement involves anticipating changes in trends as prices near the lines created by
the Fibonacci studies. After a significant price move (either up or down), prices will often retrace
a significant portion (if not all) of the original move. As prices retrace, support and resistance
levels often occur at or near the Fibonacci Retracement levels.
Fibonacci retracement levels can easily be displayed by drawing a trend line between a perceived
high point to a perceived low point. By taking the difference between the high and low, the user
can insert the percentage ratios to achieve the desired pullbacks. These levels represent areas
where the pullback may subside; thus, signaling opportunities to enter and exit positions. The
most commonly used levels are 38.2%, 50%, and 61.8%.
The Fundamentals take into account theoretical models of exchange rate determination and on
the major economic factors and their influence on the foreign exchange rates.
Fundamental analysis comprises the examination of macroeconomic indicators, asset markets
and political considerations when evaluating a nation’s currency in comparison to another.
Macroeconomic indicators include figures such as growth rates, interest rates, inflation,
unemployment, money supply, foreign exchange reserves and productivity. Asset markets
comprise stocks, bonds and real estate. Political considerations impact the level of confidence in
nation’s government, the climate of stability and level of certainty.
The idea behind this type of analysis is that if a country's current or future economic outlook is
good, their currency should strengthen. The better shape a country's economy is, the more
foreign businesses and investors will be inclined to invest in that country. In order for a
speculator to make an investment in that country, he would need to purchase that country's
currency to obtain those assets.
There are two main factors that are main part of fundamental analysis:
1. Economic Factors
2. Confidential factors.
Economic factors examine specific demand stemming from purchases, goods, services, or assets.
Currencies are affected by changes in interest rates of a country, which in turn, affect inflation. If
the currency value goes down, it costs more to import goods from another country; hence, the
cost of living goes up, leading to inflation.
Confidence factors are general and often a non substantiated explanation for a past or
prospective move. They include political events, market sentiment about the management of a
country’s policies and currency, or simply an expectation of how other players in the market will
react to the country’s currency. Political events can fall under this category.
All studies point to the fact that both technical and fundamental analysis are important in
making trading, speculating or investment decisions.
Pips and Pipettes
The currency pair prices are expressed in the form of a Spread. On the Left side of the spread we
have the Bid and on the Right side we have the Ask. You will see the numbers posted to 5
decimal places. As we know there are 100 cents that make up a dollar and in currency we have
100 P.I.Ps that make up a penny.
Price Interest Point
The unit of measurement to express the change in value between two currencies is called a "Pip".
If EUR/USD moves from 1.3410 to 1.3411, that is ONE PIP. A pip is the last decimal place of a
quotation. In most cases four decimal places are used to quote pairs except for the Japanese yen.
If a pair does include the Japanese yen, then the currency quote goes out two decimal places.
Some brokers will quote currency pairs beyond the standard "4 and 2" decimal places to "5 and
3" decimal places. They are quoting FRACTIONAL PIPS, also called pipettes. For instance, if
GBP/USD moves from 1.51542 to 1.51543, it moved ONE PIPETTE.
Profit-and-loss calculations are pretty straightforward in terms of math — they’re all based on
position size and the number of pips you make or lose. A pip is the smallest increment of price
fluctuation in currency prices. Pips can also be referred to as points.
The FX market provides traders with access to much higher leverage than other financial
They can benefit from leverage in excess of 100 times their capital versus the 10 times capital
that is typically offered to professional equity day traders.
The margin deposit for leverage is not a down payment on a purchase of equity; instead, it is a
performance bond, or good faith deposit, to ensure against trading losses. This is very useful to
short-term day traders who need the enhancement in capital to generate quick returns.
Forex brokers offer trade margin of 50, 100, 150, or even 200 to 1 of trade margin.
Thanks to leverage you can control a huge sum of money with little cash outlay on the table. For
example, a $1,000 in a 150:1 Forex account will gives you the purchase power of $150,000 in
the currency market.
Trading Capital Purchase Money value ROI of capital
Margin Power of 1% Profit
2:1 $1,000 $2,000 $20 2%
10:1 $1,000 $10,000 $100 10%
50:1 $1,000 $50,000 $500 50%
100:1 $1,000 $100,000 $1,000 100%
150:1 $1,000 $150,000 $1,500 150%
200:1 $1,000 $200,000 $2,000 200%
Of course as mentioned earlier, this high leverage can yield large profit or substantial loss in a
small amount of time. When placing an order to buy or sell a currency, orders are placed in
LOTS. In Forex, one million dollars worth of a currency is generally accepted as a minimum
round lot. Single orders, in excess of a million dollars, are regularly traded by large institutions
A Lot is the standard trading term referring to an order of 100,000 units.
Currency pairs are usually traded in units of:
100,000 (standard lots),
10,000 unit (mini lots) or
1,000 (micro lots)
This actually means that when you are buying or selling 1 Lot of currency you are in fact buying
or selling 100,000 units.
Example: If you buy 1 Lot of US Dollars you are controlling $100,000 Dollars
If you buy 10 Lots of US Dollars you are controlling $1 Million Dollars
BID and ASK
When buying or selling a currency pair, each pair has its own Bid/Ask rate, for example:
Pair Bid Ask
EUR / USD 1.3421 1.3423
The BID is the price at which a market maker (Liquidity Provider) is willing to buy the basic
currency in exchange for the counter currency.
The ASK is the price at which a MM or Liquidity Provider will sell the base currency in
exchange for the counter currency.
The difference between the BID and ASK price is referred to as the SPREAD
You can either buy the pair at the Ask rate (Buy 1EUR / Sell $1.3423 ) or sell the pair at the Bid
rate (Sell 1 EUR / Buy $1.3421 )
The spread is the recognized way that profit is made for the broker. In FX there is usually no
commissions to be paid as with stock trading. Once the spread is paid upon opening the position,
the trade needs not concern themselves with further charges to close the position.
The Long, Short and Squaring (or closing out)
Forex markets use the same terms to express market positioning as most other financial markets.
Currency trading involves simultaneous buying and selling, we need to be clear on the terms.
A Long Position or simply a “Long” in forex refers to having bought a currency pair.
When you’re long, you’re looking for prices to move higher, so you can sell at a higher price
than where you bought.
When you want to close a long position, you have to sell what you bought which will “close out
A Short Position, or simply a “Short” in forex markets means you’ve sold a currency pair,
meaning you’ve sold the base currency and bought the counter currency.
When you’ve sold a currency pair, you have actually borrowed the currency from the broker and
are obliged to replace the currency at a later point in time. During this style of trade you’re
looking for the pair’s price to move lower so you can buy it back at a profit and return the
borrowed currency to the broker.
Having no position in the market is called being square or flat. If you have an open position and
you want to close it, it’s called squaring up. If you’re short, you need to buy to square up. If
you’re long, you need to sell to go flat. The only time you have no market exposure or financial
risk is when you’re square.
Trading: Order Types
A market order is an order to buy or sell a currency pair at the current market price. One of the key
advantages of trading in the Forex Market is that market orders are guaranteed to fill as the vast liquidity
available ensures that there are always buyers and sellers.
For example, the bid price for EUR/USD is currently at 1.3141 and the ask price is at 1.3143. If you
wanted to buy EUR/USD at market, then it would be sold to you at the ask price of 1.3143. You would
click buy and your trading platform would instantly execute a buy order at that exact price.
Pending orders are a commitment between a client and their broker to buy or sell positions at a predefined
price in the future. These orders are placed to open trades in the future provided the future price level
reached the predefined level. There are four types of pending orders available on the terminal
Limit Entry Order
A limit order allows a client to specify the price at which he or she is willing to enter the market. Traders
can place Buy Limit or Sell Limit Orders.
Buy Limit Orders
Buy Limit Orders are usually placed at a predetermined price in anticipation that once price action has
fallen to this price level it will reverse and move up.
Sell Limit Orders
Sell Limit Orders usually placed at a predetermined price in anticipation that once price action has risen
to this price level it will reverse and move down .
Buy Stop Orders
Buy Stop Orders are usually placed in anticipation that once price action has risen to a certain price level,
it will continue to increase.
Sell Stop Orders
Sell Stop Orders are usually placed in anticipation that once price action has dropped to a certain level, it
will continue to fall.
Trailing Stops Orders
A trailing stop is a type of stop-loss or close position order that is attached to a trade that moves as price
As an example, if the trade has moved in your favour, you may wish to place a trailing stop of 20 pips.
This means that if the price action turns against your profitable position, the order will automatically close
the position once the price has moved against your best price point by 20 pips. If the price moves 10 pips
against your position then reverses and goes in your favour 25 pips more, the trailing stop will
automatically move to 20 pips from the best price point again.
This sea saw action will continue until the price reverses against you and moves 20 pips against you – at
the 20th pip the position will automatically close and lock in your profit.
Roll Over or Swap
Rollover or the Swap Rate is the interest paid or earned while holding a position overnight (i.e. past the
daily market close hour which is 5:00 pm E.S.T.)
Each currency has an interest rate associated with it. As you now know, currencies are traded in pairs, so,
each position held “overnight” involves not only two different currencies, also two different interest rates
The greater the interest rate differential between the currency pairs, the greater the rollover charge will be.
It takes place when the settlement of a trade is rolled forward to the next value time period. As we
mentioned above, trades must be settled individually.
If the interest rate on the currency you bought is higher than the interest rate of the currency you sold,
then your account will be credited with additional funds.
If, on the other hand the interest rate on the currency you bought is lower than the interest rate on the
currency you sold, then you will pay rollover and your account will decrease in value by that amount.
Rollover can add a significant extra cost or profit to your account. An important fact to realize is that
positions held for longer periods of time may negatively impact your available margin and could possibly
trigger a margin call and even close out your entire account. Traders must review their available margin
as it compares with the possibility of ever increasing Roll Over liabilities.