Module 2: Forex Market Structure
2.1 Understanding Currency Pairs
Ever wondered why currencies are always listed in pairs? Why can’t you just buy ‘dollars’ like you buy stocks?
In Forex trading, currencies are always traded in pairs because you’re simultaneously buying one currency and selling another. Think of it as a tug-of-war between two economies. The first currency in the pair is the base currency, and the second is the quote currency. The exchange rate tells you how much of the quote currency you need to buy one unit of the base currency.
There are Three Types of Currency Pairs
- Major Pairs – The superstars of Forex, these pairs include the U.S. dollar (USD) and are the most traded. Examples: EUR/USD (Euro vs. U.S. Dollar) GBP/USD (British Pound vs. U.S. Dollar) USD/JPY (U.S. Dollar vs. Japanese Yen)
- Minor Pairs – These pairs do not include the USD but involve other strong currencies.
Examples: EUR/GBP (Euro vs. British Pound) AUD/NZD (Australian Dollar vs. New Zealand Dollar)
3. Exotic Pairs – These include a major currency paired with a less common one, often from an emerging market. Examples: USD/TRY (U.S. Dollar vs. Turkish Lira) EUR/ZAR (Euro vs. South African Rand)
2.2 Base and Quote Currency Concept
What’s the deal with base and quote currencies? Why does EUR/USD look different from USD/EUR?
- The base currency is the first currency in the pair (EUR in EUR/USD).
- The quote currency is the second currency in the pair (USD in EUR/USD).
- If EUR/USD = 1.1000, it means 1 Euro is worth 1.10 U.S. Dollars.
- If the rate goes up, the base currency strengthens; if it goes down, the base currency weakens.
Think of it like shopping: If the price of 1 Euro goes up, this means you need more dollars to buy the same Euro.
2.3 Market Hours and Trading Sessions
Is there a ‘best’ time to trade Forex? Can you trade in your pajamas at 2 AM?
Forex is open 24 hours a day, but not all hours are created equal. The market is divided into major trading sessions:
The Four Major Forex Sessions are;
- Sydney Session (Pacific Session) – The first market to open. A quieter session with less volatility.
- Tokyo Session (Asian Session) – Japan’s influence brings liquidity, especially for JPY pairs.
- London Session (European Session) This is the busiest session, where most of the trading action happens.
- New York Session (US Session) – The second busiest session, overlapping with London for maximum volatility.
Best Times to Trade
- The London-New York overlap (8 AM – 12 PM EST) sees the most action.
- Trading during your currency’s session (e.g., trading JPY pairs during the Tokyo session) increases liquidity.
- Avoid low-volume hours when spreads widen and price movements slow down.
2.4 Understanding Bid, Ask, and Spread
Why do brokers always show two prices? And what’s this ‘spread’ thing they keep talking about?
Every currency pair has two prices:
- Bid Price – The price at which you can SELL the base currency.
- Ask Price – The price at which you can BUY the base currency.
- The spread is the difference between the bid and ask price. It’s essentially the broker’s fee for executing your trade.
Example:
If EUR/USD shows 1.1000/1.1002:
- 1.1000 is the bid price (you sell at this price).
- 1.1002 is the ask price (you buy at this price).
- The spread is 0.0002 (2 pips).
Why Does the Spread Matter?
- Lower spread = cheaper trading costs.
- Spreads widen during low liquidity periods, like before major news events or after market hours.
- Tighter spreads are found in major pairs, while exotic pairs usually have wider spreads.
Wrapping It Up
Forex has a unique structure that is different from stocks or commodities. Understanding currency pairs, market hours, and pricing mechanics is essential for any trader. Now that you’ve gotten the market structure down, you’re one step closer to making informed trading decisions!
Key Takeaways
- Forex trades in currency pairs—you’re always buying one and selling another.
- There are three types of currency pairs: major, minor, and exotic.
- The base currency is what you’re trading, and the quote currency determines its value.
- Forex operates 24 hours a day, divided into major trading sessions.
- Bid price is where you sell, ask price is where you buy, and the spread is the difference between them.
Next up, we’ll explore Forex order types and how to place trades like a pro!
