Currency Pairs

Pips And Spreads, Pairs And Orders - The Basics Explained

Currency pairs in Forex trading have been standardized by the IMF. The pairs most commonly traded are:

• EUR/USD - The Euro and the U.S. dollar.
• USD/CHF - The U.S. dollar and the Swiss franc (sometimes called “the Swissie”)
• GBP/USD - The pound sterling of Great Britain and the U.S. dollar (sometimes called “the cable”)
• USD/JPY  -  The U.S. dollar and the Japanese yen.
• USD/CAD - Tthe U.S. dollar and the Canadian dollar.
• AUD/USD - The Australian dollar and the U.S. dollar.

These pairs account for 80% of all trades in the Forex market. They all involve the U.S. dollar, because it’s still the biggest economy in the world and one of the most inviting to trade. But this is also a holdover from the Bretton Woods Accord of 1944, which pegged all currencies to the U.S. dollar as a benchmark. Although the Accord was abandoned in the early 1970s, some of its effects are still evident in the market.

The first currency in the pair is known as the base currency, and it’s the important one. Its value is always one in the exchange rate, and it controls the direction of the trade and the chart. The second currency is called the cross currency.

For example, in the GBP/USD, the British pound is the base currency and the U.S. dollar is the cross. If the price on this pair is 1.7609, that means that one pound is worth 1.7609 U.S. dollars. If the chart goes up, that means the pound is strengthening against the dollar; if it goes down, the dollar is strengthening against the pound.

Because a purchase automatically includes two currencies, one being traded against the other, it’s just as possible to make a profit in a bear market as a bull market. For the same reason, there’s no prohibition against selling short in Forex trading as there is in the stock market; it’s built into the system.

Prices are measured in pips, which is an acronym for Price Interest Point, and it’s the smallest digit in the price. This is an important point, because not all pips are created equally; they reflect the base currency of the pair. If the U.S. dollar is the base currency, then one pip equals one dollar in a mini account or ten dollars in a standard account. If you place a trade with one of these currencies and earn fifty pips, that would be a profit of $50 in a mini account or $500 in a standard one.

But if the base currency is not the U.S. dollar, then the value of one pip is equal to one unit of the base currency. In the GBP/USD, because the pound sterling is the base currency, one pip is equal to one pound; in the AUD/USD, one pip equals one Australian dollar. Therefore, when you take profits in these currencies, you’re taking them in the base currency, which then must be exchanged into the U.S. dollar at the current exchange rate.

If the exchange rate is one or more, then this works in favor of U.S. traders; but if the value is below one, it’s not such a good thing. For example, a gain of fifty pips in the GBP/USD equals not U.S. $50, but £50. If the exchange rate was still 1.7609, then the profit after conversion would be around U.S. $88.

But a gain of fifty pips in the AUD/USD equals AU $50, and the exchange rate is more likely to be around 0.7467. So the profit would be closer to U.S. $37.