Module 3: Basic Forex Terminology
3.1 Understanding Pips, Lot Size, Leverage, and Margin
Ever heard traders talk about ‘pips’ and ‘lots’ and felt completely lost? Don’t worry; we’ve got you covered!
What’s a Pip?
- A pip (percentage in point) is the smallest price movement in Forex trading.
- Most currency pairs are quoted to four decimal places (e.g., EUR/USD 1.1000 → 1.1001 = 1 pip).
- The exception is currency pairs with the Japanese Yen (JPY), which are quoted to two decimal places (e.g., USD/JPY 110.00 → 110.01 = 1 pip).
Lot Sizes: How Much Are You Trading?
- Standard Lot = 100,000 units
- Mini Lot = 10,000 units
- Micro Lot = 1,000 units
- Nano Lot = 100 units
A pip’s value depends on your lot size. For example, in a standard lot, 1 pip movement = $10.
Leverage & Margin: Borrowing Power
- Leverage lets you control a larger trade with a smaller deposit. Example: With 1:100 leverage, a $1,000 deposit controls a $100,000 trade.
- Margin is the portion of your funds that the broker holds as a security deposit for your leveraged trade.
- Higher leverage = bigger profits but also bigger risks! Always manage your risk properly.
3.2 Long vs. Short Positions
How exactly do traders make money when prices go down? Welcome to the world of going long and short!
- Going Long = Buying first, selling later at a higher price to make a profit.
- Going Short = Selling first, buying later at a lower price to make a profit.
Example:
- If you buy EUR/USD at 1.1000 and sell at 1.1050, you make 50 pips.
- If you sell EUR/USD at 1.1000 and buy at 1.0950, you make 50 pips.
Long or short, the goal is the same: Buy low, sell high (or sell high, buy low!).
3.3 Order Types: Market, Limit, Stop-Loss, and Take-Profit
Clicking ‘buy’ or ‘sell’ isn’t the only way to enter a trade—let’s talk about smarter order types!
Market Order: Instant Execution
- Buy or sell at the current price.
- Best for quick entry but can lead to slippage.
Limit Order: Better Prices, More Control
- Buy at a lower price than the current market price (Buy Limit).
- Sell at a higher price than the current market price (Sell Limit).
- Used to enter trades at a preferred price rather than the current price.
Stop-Loss: Protecting Your Capital
- Automatically closes a losing trade at a set price to limit losses.
- Example: If you buy EUR/USD at 1.1000 and set a stop-loss at 1.0950, your loss is capped at 50 pips.
Take-Profit: Locking in Profits
- Automatically closes a trade at a set profit level.
- Example: If you buy EUR/USD at 1.1000 and set take-profit at 1.1050, your profit is locked in at 50 pips.
Using stop-loss and take-profit orders helps manage risk and remove emotions from trading.
3.4 Slippage and Liquidity
Is the price you click always the price you get? That’s slippage!
What is Slippage?
- Slippage happens when your trade is executed at a price different from what you expected.
- Can occur during high volatility (news events, market openings) or low liquidity periods.
- Example: You place a buy order at 1.1000, but it executes at 1.1005—this is 5 pips of slippage.
Why Does Liquidity Matter?
- High liquidity = easier trade execution, tighter spreads, less slippage.
- Low liquidity = harder to enter and exit trades, wider spreads, more slippage.
- Major pairs (EUR/USD, GBP/USD) have high liquidity; exotic pairs (USD/TRY, EUR/ZAR) have lower liquidity.
Wrapping It Up
Understanding these key Forex terms is crucial for making smart trades. Now that you know what pips, lots, leverage, order types, and slippage are, you’re ready to trade with confidence!
Key Takeaways
- A pip is the smallest price movement in Forex trading.
- Lot sizes determine how much you trade, from nano lots to standard lots.
- Leverage allows you to control bigger positions, but it increases risk.
- Going long means buying first, going short means selling first.
- Market, limit, stop-loss, and take-profit orders help control your trades.
- Slippage occurs when your order is filled at a different price due to volatility or low liquidity.
Next up, we’ll explore different Forex trading strategies to help you develop your own winning approach!
