How to Read Currency Pairs in Forex
Forex quotes are listed in pairs, with each currency denoted by 3 characters to represent the country of origin.
The currency symbols can be divided by a slash (AAA/BBB), colon (AAA:BBB), dash (AAA-BBB) or sometimes nothing at all (AAABBB).
The position of the symbols is significant to determine value, understand the quote and make informed trade decisions that are commonly associated with success in the financial markets. This is typicallly done using forex trading account Australia for buying and selling currencies, and then profiting from scenarios that agree with an active position in the markets.
The base currency is the first currency listed in a pair. In the pair USD/JPY, the base currency is the United States Dollar. The base currency is the unit of measurement for the secondary currency listed. For example, in the currency pair USD/JPY, the US Dollar is the base unit of measurement. The base unit is always one. Therefore, USD/JPY tells us how many Japanese Yen will equal one US dollar.
The quote currency, also known as counter currency, it is the second currency listed in the pair. The base currency is always one, so the quote currency shows the value of the second currency against one unit of the base currency. For example, EUR/USD shows how many US dollars equal one Euro.
Direct and Indirect Quotes
Which comes first, foreign or domestic currency? It’s a common practice that the domestic currency is the base currency in a quote. That means, traders will be seeing the value of foreign currencies against their home currency. When the base is domestic, this is called a direct quote.
Indirect quotes, however, put the foreign currency in the base position. Most countries use direct quotes, so the market trader is viewing quotes based on their home currency. However, in some countries, such as Canada, the United Kingdom, Australia and New Zealand, the preference is to use indirect quotes.
Regardless of whether the base currency is foreign or domestic, it always equals one unit, so it only takes a little math to calculate the domestic price on an indirect quote.
The exchange rate always refers to the rate of exchange on the quote currency. It’s sometimes called the forex rate or the conversion rate, but it means the same thing. The rate is the formula for how many quote units it would take to equal one base unit.
For example, if the USD/CAD is quoted at 1.292, that means it takes 1.292 units of the quote currency (Canadian Dollar) to equal one base unit (one US dollar). Clearly, with this exchange rate, the US dollar has a stronger value and new forex trend against the Canadian dollar.
When to Buy, When to Sell
Buyers purchase a currency pair when they feel the base currency will rise against the quote currency. They sell when they feel the base will weaken against quote currency. Many forex traders watch news reports about the top 8 currency nations to get a feel for how market values may change.
For example, in 2008, many forex traders saw the Canadian dollar gaining momentum against the US greenback, spurring them to buy Canadian currency and sell US. Those who bought CAD were rewarded when the Canadian dollar reached parity and then surpassed the US dollar.
Buying and Selling on Every Transaction
The nature of currency pairs means each trade is both a buy and sell transaction. However, decisions to buy or sell are made according to the projected value of the base currency. Therefore, buying the pair AUS/USD means that you are buying Australian dollars, while also selling American dollars.
Essentially, the trader is converting or exchanging American dollars for Australian dollars. If the trader is selling the same pair, then the transaction is selling Australian dollars and buying American dollars.
In the end, mastering currency symbols and how they relate to each other is not as daunting as some would believe. The basic rules of how currency pairs and forex quotes are presented do not bend or change. Learning how they work is the first important step to successful trading in the forex market.