It is the quotation of one currency unit against another currency unit. For example, the euro and the US dollar together make up the currency pair EUR/USD. The first currency (in our case, the euro) is the base currency, and the second (the US dollar) is the quote currency. As you see, we use short forms for currencies: euro is EUR, US dollar is USD, and Japanese yen is JPY.
It is the rate at which you exchange one currency for another. The exchange rate shows you how much of the quote currency you need if you want to buy 1 unit of the base currency. Example: EUR/USD = 1.3234. This means that 1 euro (the base currency) is equal to 1.3234 US dollars (the quote currency). Now take a quick peek at how the euro is doing against the Japanese yen: for 1 euro I can get 106.53 Japanese yen (i.e. EUR/JPY=106.53). Maybe I’ll wait until the euro gets stronger before I exchange it and fly to Tokyo again.
The exchange rate may change in 2 days or 1 week, though. It may even stabilize for a while. Okay, but when? If you’re a time freak like me, the when is important to you, too.
The when is a question that nobody can answer precisely. It depends on a great deal of social and economic factors, many of which you’ll be watching more closely when you start trading forex. Why? Because currency rates change all the time, and you want to know when to buy one currency and when to sell another to make a profitable deal.
The price at which the market is prepared to sell a product. Prices are quoted two-way as Bid/Ask. The Ask price is also known as the Offer.
In FX trading, the Ask represents the price at which a trader can buy the base currency, shown to the left in a currency pair. For example, in the quote USD/CHF 1.4527/32, the base currency is USD, and the Ask price is 1.4532, meaning you can buy one US dollar for 1.4532 Swiss francs.
In CFD trading, the Ask also represents the price at which a trader can buy the product. For example, in the quote for UK OIL 111.13/111.16, the product quoted is UK OIL and the Ask price is £111.16 for one unit of the underlying market.*
The price at which the market is prepared to buy a product. Prices are quoted two-way as Bid/Ask. In FX trading, the Bid represents the price at which a trader can sell the base currency, shown to the left in a currency pair. For example, in the quote USD/CHF 1.4527/32, the base currency is USD, and the Bid price is 1.4527, meaning you can sell one US Dollar for 1.4527 Swiss francs. In CFD trading, the Bid also represents the price at which a trader can sell the product. For example, in the quote for UK OIL 111.13/111.16, the Bid price is £111.13 for one unit of the underlying market.*
It is the difference in pips between the ask price and the bid price. The spread represents the brokerage service costs and replaces transaction fees. There are fixed spreads and variable spreads. Fixed spreads maintain the same number of pips between the ask and bid price, and are not affected by market changes. Variable spreads fluctuate (i.e. increase or decrease) according to the liquidity of the market.
A pip is the smallest price change of a given exchange rate.
Are you a visual type? Here’s an example: if the currency pair EUR/USD moves from 1.2550 to 1.2551, that’s a 1 pip movement; or a move from 1.2550 to 1.2555 is a 5 pip movement. As you see, the pip is the last decimal point.
All currency pairs have 4 decimal points – the Japanese yen is the odd one out. Pairs that include JPY only have 2 decimal points (e.g. USD/JPY=86.51).
Forex is traded in amounts called lots. One standard lot> has 100,000 units of the base currency, while a micro lot has 1,000 units.
For example, if you buy 1 standard lot of EUR/USD at 1.3324, you buy 100,000 Euros and you sell 133,240 US dollars. Similarly, when you sell 1 micro lot of EUR/USD at 1.3120, you sell 1,000 Euros and you buy 1,312. US dollars.
The pip value shows how much 1 pip is worth. The pip value changes in parallel with market movements. So it is good to keep an eye on the currency pair(s) you are trading and how the market changes.
Now let’s reflect on what you have learnt about pips! To benefit from pips and see significant a increase/decrease in profit, you will need to trade larger amounts. Suppose your account currency is USD and you choose to trade 1 standard lot of USD/JPY. How much is 1 pip worth per $100,000 on the USD/JPY currency pair?
The calculation formula is as follows:
Amount x 1 pip = 100,000 x 0.01 JPY = JPY 1,000 If USD/JPY = 130.46, then JPY 1,000 = USD 1,000/130.46 = USD 7.7 Therefore, the value of 1 pip in USDJPY is equal to: (1 pip, with proper decimal placement x amount/exchange rate).
Margin is the money borrowed from a brokerage firm to purchase an investment. It is the difference between the total value of securities held in an investor’s account and the loan amount from the broker. Buying on margin is the act of borrowing money to buy securities. The practice includes buying an asset where the buyer pays only a percentage of the asset’s value and borrows the rest from the bank or broker. The broker acts as a lender and the securities in the investor’s account act as collateral.
In a general business context, the margin is the difference between a product or service’s selling price and the cost of production, or the ratio of profit to revenue. Margin can also refer to the portion of the interest rate on an adjustable-rate mortgage (ARM) added to the adjustment-index rate.
Strictly speaking, through leverage the forex broker lends you money so that you can trade bigger lots:
Leverage depends on the broker and its flexibility. At the same time, Leverage varies: it can be 100:1, 200:1, or even 500:1. Remember that with leverage you can use $1,000 to trade $100,000 (1,000×100) or $200,000 (1,000×200), or $500,000 (1,000×500).
How does it actually work? I open a trading account and I get a loan from my broker as simply as that?
Firstly, it depends on what type of account you open, what the leverage for that particular account type is, and how much leverage you need. Don’t be greedy – but don’t be too shy, either. Leverage can be used to maximize gains – but also losses, if you are too greedy.
Secondly, your broker will need an initial margin on your account, that is, a minimum deposit.
How this works?
You open a trading account that has a leverage of 1:100. You want to trade a position worth $100,000 but you only have $1,000 in your account. No worries, your broker will lend you the remaining $99,000 and sets aside $1,000 as your good faith deposit.
The profits that you make by trading will be added to your account balance – or, if there are losses, they will be deducted. Leverage increases your buying power and can multiply both your gains and losses.
It is the total amount of money in your trading account, including your profit and losses. For instance, if you deposited USD 15,000 into your account and you also made a profit of USD 4,000, your equity amounts to USD 19,000.
It is the amount of money kept aside by your broker so that your current trading positions can be kept open and you don’t end up with a negative balance.
It is the amount of money in your trading account with which you can open new trading positions.
Free margin = Equity – Used Margin.
This means that if your equity is USD 10,000 and your open positions require USD 2,000 margin (used margin), you are left with USD 8, 000 (free margin) available to open new positions.
A margin call occurs when the value of an investor’s margin account (that is, one that contains securities bought with borrowed money) falls below the broker’s required amount. A margin call is the broker’s demand that an investor deposit additional money or securities so that the account is brought up to the minimum value, known as the maintenance margin. A margin call usually means that one or more of the securities held in the margin account has decreased in value below a certain point. The investor must either deposit more money in the account or sell some of the assets held in the account.
It is a trade that you hold open during a certain period of time.
When you enter a long position, you buy a base currency.
Supposing that you choose the EUR/USD pair. You expect the EUR to strengthen as compared to the USD, so you will buy EUR and profit from its increase in value.
When you enter a short position, you sell a base currency. If you choose the EUR/USD pair again, but this time you expect the EUR to weaken as compared to the USD, you will sell the EUR and profit from its decrease in value.
Close a Position
If you enter a long (buy) position and the base currency rate has gone up, you want to get your profit. To do so, you must close the position.
It is an order to buy/sell a financial instrument (e.g. forex, stocks, or commodities like oil, gold, silver, etc.) that will stay open until you close it, or you have your broker close it for you (e.g. via telephone trading).
It is an order placed away from the current market price. Assuming that EUR/USD is traded at 1.332. You want to go short (place a sell order on this currency pair) if the price reaches 1.345, so you place an order for the price 1.345. This order is called limit order. So your order is placed when the price reaches the limit of 1.345. A buy limit order order is always set below the current price whereas a sell limit order is always set above the current price.
Take Profit Order (TP)
It is an order that closes your trade as soon as it has reached a certain level of profit.
Stop-Loss Order (SL)
It is an order to close your trade as soon as it reaches a certain level of loss. With this strategy, you can minimize your loss and avoid losing all your capital. You can make stop-loss orders with automated trading software. It’s a great thing because even if you’re on holiday when you don’t watch how the market and currency rates change, the software does it for you.
Also known as hedging and double position, this is a clever strategy which possesses the ability to provide you with a window of opportunity for high returns while minimizing your risk exposure throughout the process. For example, imagine that you have opened a ‘call’ CFD option which had an opening or strike price of $20. Now assume that you have achieved a favorable position and are now in-the-money with the current price standing at $24. However, you are worried that a serious price retraction could occur which could wipe out all your profits and could even cause losses. To safeguard your gains from such an eventuality, you could, at this point, open a new ‘put’ option and pair it with your original ‘call’ one.
By doing so, you would create an opportunity window between $20 and $24. This is because if the price finishes within this range at the expiry time then you will receive profit payouts from both options. In addition, you would also significantly reduce your risk exposure because should the value of the price finishes outside this window at the expiry time then the profit of one of your options will almost totally negate the loss of the other.
INDEX-ASSET DIVERGENCE TRADE:
This is another popular strategy that entails hedging a CFD option based on a company’s shares with one whose underlying asset is the trade index that includes the same firm. For example, imagine that you decide to open a ‘call’ CFD option with Apple because you think the value of its shares will rise in the near future. In order to hedge this trade and if you also believe that the stock markets will generally fall in value, you could also consider activating a ‘put’ CFD option based on the S&P500 of which Apple is a composite company.
Consequently, this strategy will help you minimize your risk and allow you to support your trust in trading your selected asset. In addition, you could provide yourself with the opportunities to compound your profits, maximize your returns and minimize your risk exposure. For instance, with the example just described you could achieve a double profit pay-out when your calculations is proven correct.
COMPETITOR RELATIVE VALUE TRADE:
This strategy can help you profit using CFD options by exploiting the opposite price movements of two competing companies. For example, imagine that Microsoft is about to release a new product that is expected to provide a significant boost to the values of its shares.
In addition, you also deduce that rivals, such as Apple, could suffer market share decrease which will have f negative influences on the values of their shares. Consequently, by following your fundamental and technical analysis to the fullest you should open a ‘call’ CFD option with Microsoft and a ‘put’ one with Apple. This action will then provide you with the opportunity to collect double profits by taking advantage of the competitor relative value trade.
COMMODITY STOCKS AFFECT TRADE:
Many traders consider this to be a very powerful and effective CFD options strategy. Basically, the idea is to exploit the variance in the movements of commodities on the share values of companies that trade them.
For example, significant movements in the price of aviation fuel can seriously influence the share values of airline companies. Consequently, if you believe that a spike in the price of aviation fuel is imminent then you could consider activating a ‘call’ CFD option with this commodity as its underlying option. In addition, you could hedge this trade by opening a ‘put’ CFD option based on the shares of an appropriate airline because you are anticipating them falling in value as a consequence of this development.
In summary, if you take your time to evaluate CFD options strategies such as those described above then you will find that this is a rewarding undertaking that could significantly boost your profits. This is because you can then provide with opportunities to compound your profits within the same time frame whilst minimizing your risk exposure in the process.
You will find by analyzing Safe IG CFD options trading platform that it has been specifically designed with this purpose in mind. You will be very impressed about the quality and quantity of the impressive trading strategies and tools which are available to all Safe IG clients especially.
The following CFD options strategies will now be explained with this intent in mind. They should help you improve your trading results under a number of different market conditions:
You will require such a strategy if you determine that the price of the underlying asset of your CFD option is rising in value. You should then activate a ‘call’ CFD option under these circumstances.
For example, your technical analysis indicates that oil is very likely to increase from its current value of $110 over the short term. You are also aware that you will be entitled to an 87% profit if you open a ‘call’ CFD option with Safe IG using oil as its underlying asset. In addition, you also precisely know your risk exposure because if you finish out-of-the-money, you will receive a refund between 10% and 15%.
You next choose to deposit an investment of $1000 and opt for an expiry time of 30 minutes. That is it? These are all the decisions that you have to make. Now, when your expiry time expires and if the price of oil is just $1 higher than your opening or strike value, you will earn a profit of $780 in just 30 minutes.
This is a fantastic return for what appears to be a small risk exposure and with minimum effort.
However, like any investment decisions you must ensure that you fully understand your objectives and risks before activating any new trades. In this respect, your goals and risks are well-defined as compared to other investment types. In summary, despite all benefits of trading using CFD options, you should always work and adhere to a well-developed trading strategy.
You will require such a strategy if you determine that the price of the underlying asset of your CFD option is falling in value. You should now activate a ‘put’ CFD option under these circumstances.
For example, your technical analysis indicates that the EUR/USD currency pair is very likely to decrease from its current value of 1.4000 during the next few hours. You are aware that you will be entitled to an 87% profit if you open a ‘put’ CFD option with Safe IG using the EUR/USD as its underlying asset. You also know precisely what your risk exposure is because if you finish out-of-the- money at expiry time then you will receive a refund between 10% and 15% of your initial deposit.
You next choose to invest a deposit of $2000 and opt for an expiry time of 1 hour. Now, when your expiry time expires and if the price of EUR/USD is just 0.0001 below your opening or strike value, you will earn a profit of $1560 in just 1 hour.
After you have mastered the basics of CFD options trading and are proficient at operating simple strategies such as the bull and bear ones just defined, you could consider learning how to use more sophisticated strategies such as the following one.