Wow, you’ve got to lesson 4! It means that your intentions are serious. Great! Let’s go through the main terms that every trader needs to know. The explanations below will help you manage your funds and risks in order to get the most out of your trades.
Lot
A lot is just some units of the asset you trade, be it a currency pair, a stock, or an index.
In Forex trading, one standard lot equals 100,000 base currency units. It means that if you want to trade 1 lot of EURUSD, you will need 100,000 euro. Besides, there is a mini lot (10,000 units) and a micro lot (1000 units).
For stocks, 1 lot usually equals 100; For indices, it’s 10.
As you probably remember from the previous lesson, when you open a trade, you need to choose its volume. ‘1’ in volume stands for 1 lot. The smallest position you may open is 0.01 lots. As for currency pairs, that stands for about $1,000.
"But what if I don’t want to invest $1000 in one trade?"
Relax, you don’t need so much money to trade! Frankly speaking, you can start trading with just $5 because you will be able to use the so-called ‘leverage.’ For now, just keep this information about lots in mind, later you’ll understand everything.
Point
Points represent the smallest change an asset can make. For example, a quote of GBPUSD is given like this: 1.26541, i.o., it is counted in five decimal points. On June 15, this pair rose from 1.26541 to 1.27832. In other words, it surged by 1289 points. Another example: on June 12, GBPUSD plunged from 1.25696 to 1.25053. The decline was 643 points.
"I’ve traded USDJPY and noticed that this pair has only 3 decimal points. What about that?"
Indeed, pairs with the JPY have three decimal points. For example, the US dollar/Japanese yen is quoted as 103.705. The last decimal of a price/quotation represents a point.
"How to count the value of one point?"
Well, that’s a good question. Let’s say you want to trade USDJPY. Its exchange rate is 144.000.
0.001 (a point) / 144.000 (an exchange rate) x 100 000 (a standard lot) = $0.694 per point
"What is about EURUSD?"
Indeed, let’s count a pair where the USD is a quote currency like EURUSD. It’s much easier as we don’t need to consider the current exchange rate.
0.00001 / 1 x 100 000 = $1 per point
Leverage
"OK, so I want to start trading, but I have only 10 dollars. Is it a problem?"
Not at all! As we already said above, the minimum deposit at FBS is $5. A trader needs $1000 to open an order with one micro lot. The good news is that brokers have found a way out – leverage. A broker will provide a trader with $995 on a trader’s $5 if the leverage is 1:200. And the leverage may go up to 1:3000!
"Will I need to provide only five dollars, while $995 is provided by a broker?"
Exactly! You do not have to invest all this money by yourself – you may borrow them from your broker.
In FBS, leverage can vary for different accounts that you have – it can be accessed through a Personal Area and changed in the Account settings. You need to choose leverage that suits you for your skills: bear in mind that while leverage multiplies your potential profit, it also increases your loss if the market goes against you.
Margin
Now that you know what leverage is, the margin will be easy! In Forex trading, a margin is a sum of funds that is required from a trader to open a position.
The margin is the $5 a trader provides in case of using 1:200 leverage in the example above.
The funds that you hold in your trading account are the money you can use as a margin. Margin value will depend on the trader's leverage ratio and the trade size.
Your trading platform will show you free margin (or usable margin) and margin level figures. A free margin is the money you have in your account that can be used to maintain your open positions or new ones. Margin level is the ratio of your Equity to the Used Margin of your open positions, indicated as a percentage.
In a healthy account, the margin level is always above 100%.
Rollover
Rollover is a process when the position is held open overnight. When that happens, the interest rates of the currencies in the FX pair are counted against each other. Depending on the interest rates, a trader is either credited or charged a particular sum.
Swap
The sum that the trader can gain or lose due to rollover is called a swap. The rollover may result in swap benefits or swap charges, depending on the interest rate differentials. Сountries’ central banks set the interest rate. Usually, the interest rates are influenced by major economic events in the country, which you can monitor in the economic calendar.
The swap rate is the interest rate of one currency in the pair minus the interest rate of the other one. Which currency you subtract from depends on the kind of trade you’re opening: long or short.
Swap Long and Swap Short in Forex Trading
Long trade (or bullish trade) is when you buy the asset expecting it to increase its value.
Short trade (or bearish trade) is the opposite: you sell the asset anticipating it will lose its value.
So, if you are going long on EURUSD (buying the euro and selling the US dollar), the dollar interest rate is subtracted from the euro interest rate. For a sell trade in EURUSD, the euro interest rate is subtracted from the dollar interest rate.
Thankfully, you don’t need to calculate the swap every time you engage in trading manually: there are special tools for that. You can check swap rates in each trade instrument’s specifications.
Stop Loss
There are two special orders that serve to close a trade: Take Profit order or TP and Stop Loss order or SL. These orders make trading results more predictable.
A Stop Loss is an exit order, which is used to limit the amount of loss that a trader may take on a trade if the market goes against them.
When you open an order, it’s better to minimize the possible risks. So, if you are going to open a buy order, place Stop Loss below the current price so that if the price falls, your Stop order will automatically close you out of that trade, protecting you from losing more.
Successful risk management means that the losses are minimized. Stop Loss can be an efficient solution for that. If you’ve decided to use a Stop Loss order, finding a good place for it is very important. The simplest way is to place SL for a buy trade at the previous low.
"Ok, I got it, but why do I need to use Take Profit?"
Take profit
Let’s say you expect the price to go up, and you want to open a buy order. If your forecast is right, the price will rise. However, it won’t rise forever but will reverse down at some point. That’s why you can use a TP that will close your positions before the price reverses.
In other words, TP is a profit target. You need to place TP at the level you expect the price to reach (it is often the previous high). If you buy, TP will be above the current price. If you sell, it will be below it. That’s it! Easy, right?
"Wow, Stop Loss and Take Profit are so useful! I will use them!"
Lesson summary
Currency pairs are traded in lots. One standard lot on Forex equals 100,000 base or account currency units;
A point represents the smallest change the price can make;
A trader can use leverage to increase the amount of capital to trade;
Proper risk management means that losses should be minimized while profit is maximized. That’s why traders should use Take Profit and Stop Loss orders.
Coming up
Next, you will be able to use the terms you have just learned to understand how trading profit is calculated.