Here we have some examples that we are going to use as fundamental analysis that will assist us to decide whether or not to purchase or sell a particular currency pair.
Even if you have not been paying good attention during your economic class, don’t worry, we are going to look at fundamental analysis extensively in one of our upcoming lessons.
But for now, pretend as if you already know what we are talking about.
Example one: EUR/USD
Under this example, we are using the euro as the base currency and therefore, the sole basis for the buy/sell.
If you have forecasted that the US economy will go on a weak foot for a long time, something that is apparently bad for the American dollar, you will be prompted to initiate a BUY EUR/USD order.
Once you do that, you have purchase euros with the hope that they will increase in value against the US dollar.
On the other hand, if you have forecasted that the economy of the US is strong while the euro will grow weaker against the dollar, you will initiate a SELL EUR/USD order.
Example two: USD/JPY
Here, we are going to use the United States dollar as the ‘base’ currency, which means the basis for the buy/sell.
If you have forecasted that the Japanese authorities plan to make the yen weaker so it can assist its export industry, what you would do is initiate a BUY USD/JPY order. That’s right!
When you do that, you have purchased U.S dollars with the hope that they will increase in value against the yen.
If for any reason you believe that investors from Japan are withdrawing their finances out of U.S financial markets, and converting all of their holdings from U.S dollars back to yen, knowing this will have serious effect on the U.S currency, you will initiate a SELL USD/JPY order.
When you do that, you have traded U.S dollars in the anticipation that they will decrease in value against the yen.
Example three: GBP/USD
Here, we are going to be using the British Pound as the base currency, meaning the ‘basis’ for the buy/sell process.
If you believe the British economy will go on performing better than that of the U.S regarding growth, you would initiate a BUY GBP/USD order.
When you do that, you have purchased Pounds in the hope that they will increase in value against the U.S dollar.
On the other hand, if you believe the economy of the United States is getting stronger like the Russian Bear in Syria, while that of the British is slowing down, you would initiate a SELL GBP/USD order.
By doing so, you have sold pounds in the hope that they will decrease in value against the U.S dollar.
Example four: USD/CHF
Here, we are going to be using the U.S dollar as the base currency, meaning the ‘basis’ for the buy/sell process.
If you believe the Swiss franc enjoys too much value, you would initiate a BUY USD/CHF order.
When you do that, you have purchased U.S dollars in the hope that they will increase in value against the Swiss franc.
On the other hand, if you believe the economy of the United States future growth will be hurt by the weaknesses in its housing market, you would initiate a SELL USD/CHF order.
By doing so, you have sold U.S dollars in the hope that they will decrease in value against the Swiss franc.
What about margin trading?
Assuming you visit the grocery store to purchase an egg, you won’t be able to buy a single one, since they always come in dozens or lots of it.
The same thing applies to forex trading; it would be extremely senseless to sell or buy 1 euro. Therefore, they are usually in the figure of a 1000 units (known as Micro), 10, 000 units (which is known as Mini amount), or in the figures of 100, 000 units (referred to as standard), depending on the type of account you operate and also what your broker thinks or wants. We shall look more into this late on.
Now you might ask; “ what if I don’t have enough cash to purchase 10,000 euros, can I still execute a trade?
Yes, with margin trading!
What is margin trading? Well, it is a term that represents the ability to trade with borrowed capital.
Margin trading is what enables you to open $50, 000 or $1, 250 positions with a meager sum of $1000 or $25.
With a small amount of capital, margin trading enables you to perform comparatively large transaction cheaply and quickly.
Now, let’s explain it to you in more explicit details. Please, pay attention!
- You have the expectations that various market signals are pointing to the fact that the British Pound will appreciate against the U.S Dollar.
- You have one standard lot opened (that is, 100,000 units of GBP/USD), using the pound to make purchases at a margin of 2% and then wait for the exchange rate to go up. When you purchase one lot of GBP/USD at the cost-price of 1.50000, you are virtually purchasing £100, 000, which has a value of $150, 000. If the required margin stands at 2%, then the amount of $3000 from your account would be set aside to open up and initiate the trade. This allows you to be in control of £100,000 using £3,000. Later on our lessons, we will look more deeply into margin trading so you can understand how best it works as a concept.
- Your forecast comes into fulfillment, and you make the decision to sell. Then you close the position right at 1.50500, and you earn not less than $500.
When you chose to close a position, the original deposit that you made is given back to you, and then all your profits and losses will be calculated for you.
The better part is that with the positive development that retail forex trading has seen, some brokers enable traders to take possession of custom lots.
By this, it means you are not trading micro, mini, or standard lots. If your favourite number is 1, 542, and that’s the number of units you want to trade, then you can get on with it.
What about Rollover?
Some positions were open at the ‘cut off time’ of your broker (usually 5: PM EST), and they attract a daily rollover interest rate that you or any other trader will either earn or pay, concerning the position and margin you have established in the market.
If for any reason, you do not want to earn or pay any interest on your positions, that would be no problem. You only need to ensure all of them are closed before 5: PM EST, the time set for the end of the market day.
Considering that all currency trade consists of borrowing one currency to purchase another, interest rollover charges become part of the forex trading.
For every currency that is borrowed, interest is PAID, while on the one that is bought, interest is EARNED.
If you are purchasing a currency that has higher interest rate compared to the one you are borrowing, then the difference in the net interest rate will be positive (meaning, USD/JPY) and you will as well earn funds.
On the other hand, assuming the difference in the interest rate is negative, and then you will have to pay.
It is noteworthy that the majority of retail brokers usually adjust their rollover rates depending on a variety of factors such as interbank lending rates, account leverage, etc.
For more information on credit/debits procedures and on rollover rates, please, contact your broker.
Below is a chart designed to help you understand the interest rate differentials of the most popular currencies. It is updated as of June 2018.
Nest on our lesson, you will learn how to make use of interest rate differentials to your benefits.
