September 14, 2022
There are many different trading tools, advanced features, and derivative types available to traders in the FX market, but all of these require a firm grasp of currency pairs — also known as forex pairs. Discover more about this important aspect of trading below.
Understanding forex currency pairs
As you learn how to trade on the forex market, you will often find yourself dealing with currency pairs. As the name suggests, these pairs represent two global currencies that are analysed together, and traders will speculate on the relative price movements of each currency in the pair.
Pairs are represented with a base currency on the left and a quote currency on the right. The base is the currency being bought, while the quote is the currency being sold. In the USD/AUD currency pair, the United States Dollar is the base currency and the Australian Dollar is the quote currency.
Along with the currency pair demarcation, there will also be an exchange rate. This shows traders how much of the quote currency will be required to purchase one unit of the base currency. In the case of the USD/AUD forex pair, the exchange rate may be A$1.47 for every US$1. On the forex platform, however, this will be represented to a higher degree of accuracy — perhaps 1.4723. A movement at the fourth decimal place of this exchange rate is known as a pip in the FX market. For some quoted currencies, such as the Japanese Yen (which has a much smaller denomination than the Australian Dollar), a pip will be a movement at the second decimal place. Traders need to keep an eye on pips as they assess market performance.
Trading with currency pairs
Traders can open a long or short position on currency pairs. A long position is essentially a buying position — in the above example, they would be long on the United States Dollar and short on the Australian Dollar at the same time. If one United States Dollar is equal to 1.4723 Australian Dollars, the trader in this example is hoping that this value increases, delivering them a profit.
If traders believe that the market will move in the opposite direction, they can open a short position on the currency pair. This means going short on the United States Dollar and long on the Australian Dollar, and the trader will want the 1.4723 rate to decrease — i.e. they want the AUD to strengthen against the USD.
If traders believe that the market will move in the opposite direction, they can open a short position on the currency pair. This means going short on the United States Dollar and long on the Australian Dollar, and the trader will want the 1.4723 rate to decrease — i.e. they want the AUD to strengthen against the USD.
If traders believe that the market will move in the opposite direction, they can open a short position on the currency pair. This means going short on the United States Dollar and long on the Australian Dollar, and the trader will want the 1.4723 rate to decrease — i.e. they want the AUD to strengthen against the USD.
Bear in mind that there are no guarantees when it comes to trading FX pairs. You can certainly research your position and base your decision on data-backed predictions, but the market can still move in a different direction from the one you expected. In other words, there is always a risk of loss.
Different types of forex currency pairs
You have a huge amount of flexibility when it comes to trading. As discussed above, you can open long or short positions, but you can also choose a wide range of different currencies to trade with. A forex pair may comprise any two currencies from around the world, although some types of pairs are traded more frequently than others. In addition, FX pairs may be divided into general categories.
● Major currency pairs
Major currency pairs are the forex pairs with the highest trading volume in terms of frequency and the amount of money used in transactions. Recently, the four major currency pairs are the EUR/USD, the USD/JPY, the GBP/USD, and the USD/CHF (Swiss Franc), although this is subject to change in accordance with market forces and general trading habits. The AUD/USD is another pair that has traditionally featured on the major list, and this may be included within broader definitions of the major forex pairs.
Trading with major forex pairs is a popular choice because they tend to provide a more stable option than other types of pairs, as well as tighter spreads and more liquidity. However, even with major forex pairs, there are no guarantees, and the market may move in an unexpected direction.
● Minor currency pairs
Minor currency pairs are traded less frequently than the majors but still enjoy a relatively high level of volume compared to other choices (see the exotic pair section below). This category generally refers to any pairs outside of the top four, and which don’t involve the United States Dollar. Common examples include the EUR/JPY, the GBP/CHF, and the AUD/NZD (New Zealand Dollar).
Compared to major forex pairs, minors are more volatile — something that can make them attractive to traders looking to make potential returns quickly. However, the risk of significant losses is high, and liquidity tends to be low. The spreads also tend to be broader for minor pairs, increasing the cost of opening a position.
● Exotic currency pairs
Exotic pairs are essentially minor pairs but with a very low trading volume, and so they are off the radar of most mainstream traders. It is more difficult to research these pairs, and liquidity is usually very low. Volatility may also be high, which means exotic options are best reserved for more experienced traders or those with specific knowledge of geopolitical and economic conditions.
The CAD/SGD (Canadian Dollar/Singapore Dollar) is a popular choice for exotic pair traders, as is the EUR/TRY (European Euro/Turkish Lira). Some exotics also include the United States Dollar, such as the USD/SEK (Swedish Krona) and the USD/THB (Thai Baht).
● Currency cross pairs
Currency cross pairs simply refer to a group of minors that do not involve the United States Dollar, but which used to require the USD as an intermediary. Exchanging the British Pound for the Japanese Yen, for example, once required an exchange from GBP into USD, and then USD into JPY — so the GBP/JPY pair would be considered a currency cross.
Currency pairs and leverage or margins
Understanding margins and leverage is important for traders learning the forex market. A margin is the amount of money that a trader must hold in their account in order to open and maintain positions. Each broker will have their own leverage requirement — if the margin is set at 5%, your account balance must remain at or above 5% of the value of all your open trades. If it falls below this level, a margin call is issued and positions may be liquidated.
You can also trade on the margin. In the 5% example, you would need to cover 5% of the position’s value with your own capital, while the broker covers the remaining 95%. This increases the potential for profit, but also significantly raises the risk.
Trading on leverage in FX works in a similar way but is expressed as a ratio. For example, you may borrow $20 from the broker for every $1 you commit from your account balance — expressed as a leverage of 20:1. In this example, the margin is still 5%, and a margin call will be issued if your account balance falls below this level.
Both margins and leverage enable traders to maximise their exposure when they trade with a currency pair. In both instances listed above, you would be controlling a position 20x greater than if you had not used leverage or traded on the margin. This means you will need to assess the movement of the currency pair carefully and be ready to close the position if the pair’s exchange rate moves too far the wrong way. Stop-loss tools can also help you, automatically closing the position if the currency pair’s exchange rate falls below a certain threshold.
Currency pairs and spreads
When you look at the value of a forex pair on the VT Markets platform, you will notice that there is a difference between the buying and selling price for the pair. This difference is known as the spread. The spread enables brokerage platforms and brokers to remain profitable, driving revenue from each position opened.
What does this mean for currency pairs themselves? Well, narrower spreads translate to lower transaction costs for the trader, and also indicate higher liquidity and lower volatility. The major forex pairs all feature narrower spreads, which is one reason why so many traders opt for these high-volume pairs.
Trade with currency pairs at VT Markets
Here at VT Markets, we provide an industry-leading platform designed to help traders secure the benefits of forex in a sustainable and responsible way. There are always risks to this type of trading, but our tools and features help you to make considered choices and data-backed decisions as you grow your understanding. Get started with our demo account, and then open real positions with the live trading account. Want to learn more about our platform? Get in touch with our team today.
FAQs
What are the most frequently traded currency pairs?
The most frequently traded currency pairs are known as the major forex pairs. These include the EUR/USD, the USD/JPY, the GBP/USD, and the USD/CHF (Swiss Franc), but this list may change along with fluctuations in the market. The AUD/USD is another frequently traded pair.
What are forex currency correlations?
A currency correlation is a slightly more complex entity on the forex market. It refers to the relative movements of two currency pairs against one another. These pairs may move in the same direction, suggesting some kind of causal relationship (although this is not always the case), or they may move in opposite directions to one another. Alternatively, the pairs may display no relationship at all, moving together at some times and moving oppositely at others.
What is the best currency pair?
The major currency pairs tend to display the highest liquidity, the lowest trading costs and the lowest levels of volatility in the market. As you learn how to trade forex, you will grow your own strategy and understand more about which pairs are best for you, but pairs in this category offer generally favourable conditions for traders of all backgrounds.
