CurrencyTradingABC.com

This currency trading tutorial is intended to give a basic understanding of the FOREX market.  The topics that you need to understand before you start trading are introduced.  Before you are ready to begin trading you must obtain a thorough understanding of these topics.

When you open an account with your broker, you will only be required to deposit a small amount of the trading capital you will be using.  Your broker will lend you the largest part of your trading capital.  This use of leverage will increase the level of exposure you have in the market.  This can multiply your gains as well as your losses.  It is important to pay close attention to this and use stop-loss-orders to help limit your risk.

Currencies trade in pairs.  Some of the most common pairs are the EUR/USD(euro/dollar), USD/JPY(dollar/Japanese yen), GBP/USD(British pound/dollar) and the USD/CHF(dollar/Swiss franc).

The base currency is the first one listed in the pair.  This is the currency that will be purchased. It will be purchased with the quote currency, the second one listed.  For example if the EUR/USD is quoted at 1.37, it means that you can buy one euro for $1.37.  If a pair is listed 1.54 GBP/USD it means that each British pound will cost $1.54.

The currencies have a bid and an asking price.  The price you pay for the currency is the asking price. The price at which you can sell your currency is the bid.  You may be able to buy EUR/USD for $1.37.  If you turn around and try to sell the same contract you may only receive $1.34.  The difference between the two prices is the spread, or brokers commission.

In order to make a profit from trading it is obviously necessary to decide accurately which way currency prices on the base currency will move in relation to the quote currency.  If you believe the euro will move higher in relationship to the dollar you would purchase the euro at the current exchange rate with the dollar.  An example is 1.41EUR/USD.  You will buy the euro at $1.41 because you think the euro will move up and you can sell it at $1.60 in the near term.  If however you think the euro is too high against the dollar, you would sell the euro. An example is 1.61 EUR/USD.  You would sell the euro at $1.61 with the intention of buying it back at maybe $1.41 in the future to close the position.

Another currency trading tutorial may suggest that you use either technical analysis or fundamental analysis to make your trading decisions.  This tutorial suggests that you are better off being familiar with both.  You may decide to put more weight on one or the other but having a good feel for both will improve your trading results.  By understanding the fundamental issues in the market that cause prices to move up and down you will be better able to predict future price changes.  By having a high degree of knowledge on how to use technical analysis, you can use stop-loss orders to help you limit your exposure to trading risks.  You will be able to identify price trends easier as well.  If you can use technical analysis along with the fundamental analysis your chances of success will be increased by a large margin.

While this currency trading tutorial has introduced you to this exciting market, you now need to gain a higher level of understanding of the topics discussed here.  This is a complex and competitive market.  Do your homework.

As currency trading becomes more popular, so too does currency option trading.  Options on currencies have a similar purpose as stock options.  The trader who purchases a call option has the right to buy the underlying currency at a specific strike price for a set amount of time.  If the price moves higher during that time the call can be exercised.  The currency is purchased at the strike price and the trader can turn around and sell it at a higher price in the market.  If the currency appears to be trending downward a put can be purchased. This gives the option holder the right to sell the currency at a set strike price for a specific amount of time.  If the price falls below the strike price the trader can buy the currency at the lower market price and exercise the option and sell the currency at the higher strike price.

There are two types of contracts used in currency option trading.  The first type is the traditional Forex option.  With this type the trader can select the strike price and the expiration date. This is different from equity options where stike prices and expirations are preset.  After submitting this information to the broker you will find out what the cost(premium) will be.  If you accept the premium you select the number of contracts you want and make the purchase.  An example would be to buy a call on the EUR/USD pair.  You would actually be buying a call on the euro and a put on the dollar.  You believe that the euro will rise against the dollar.  If this happens and you are “in the money” you can exercise the option and buy the euro and turn around and sell it in the market for a profit.  If you are wrong and the dollar rallies against the euro you only lose the premium you paid for the option.  If you had instead been long the currency and were wrong in you prediction, the loses would likely have been higher.

The second type of contract used in currency option trading is the SPOT contract.  SPOT stands for single payment option trade.  As with the traditional option you select the strike price and the expiration date.  The broker determines the premium.  If you believe the base currency price will rise you buy calls on the currency.  If you are correct and the current market price passes the strike price the position is closed and the profit is deposited into your account.  If you are wrong you lose the premium.

Premiums are determined using several different factors.  The closer the strike price is to the current market price the higher the premium will be.  The longer the time until expiration the higher the premium.  If the price of the currency being traded is highly volatile the premium will be higher. This is because the volatility gives a better chance for profit.

Currency option trading is done for different reasons.  Speculators are strictly profit driven.  They use options to simply make money from the currency price movements.  They want to “buy low and sell high.”

Hedging is another reason for currency option trading.  Those people who may own the underlying currency can use options to hedge their positions against wide and rapid price fluctuations.  They may purchase puts with a strike price near the current market price to protect profits they have made with foreign trading partners until they transaction is completed.

Many people buy currency options because their risk is predetermined.  They can only lose the amount of the premium.  These options can be sold short also.  This strategy leaves the trader open to a higher degree of risk though.  Your potential for lose is not limited to just the premium you pay.  Due to the higher level of risk most brokers will require a substantial deposit to be used as security for this type of trade.

In conclusion, currency option trading can not only limit your exposure to loses but it can multiply your profits if your trades work.  Trading options also typically requires less money than trading actual currency contracts.