Understanding how forex quotes work is the first thing you need to know when you start trading forex. Forex is always traded in currency pairs because you are speculating on price differences between two currencies to make a profit. If you’re new to trading forex, here’s a simple explanation of how forex quotes work and how traders read them to open and close positions on the forex market.
In this in-depth guide you’ll learn:
- What is a forex quotes?
- What are bid and ask prices?
- What is the spread?
- What is the difference between a direct and indirect forex quote?
- 6 things to remember when you’re reading forex quotes
And lots more…
Let’s dive right in…
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What is a forex quote?
👉 A forex quote is the difference between what a trader can buy a currency for and what a trader can sell a currency for on the foreign exchange market. Foreign exchange is always traded in currency pairs.
👉 A simple example is if you travel from Johannesburg to New York for a holiday; how many South African Rands (ZAR) will you have to convert to US Dollars (USD) to pay for your accommodation?
👉 One currency in a forex quote is the base currency and one is the quote currency. The base currency represents how much of the quote currency is needed for you to get one unit of the base currency.
👉 The difference between the base currency and quote currency is the spread. Forex brokers make money on the spread.
Example: US Dollar to Rand exchange rate
1 USD = 14.50 ZAR
If a hotel in New York costs $100 p/n, travellers from South Africa need R1 450 to pay for one night’s accommodation.
Example: Rand to Dollar exchange rate
SA Rand (ZAR) is the base currency and US Dollar (USD) is the quote currency.
1 ZAR = 0.069 USD
If a hotel in Johannesburg costs $1 000 p/n, travellers from the US need $69 to pay for one night’s accommodation.
How currency pairs appear in a forex quote
👉 Forex quotes compare two different currencies at the same time, in real-time. The first one in the pair is the base currency and the second one is the quote currency.
👉 Currency pairs are represented by three-letter codes. The forex quote may or may not have a slash between the currencies: USD/EUR or USDEUR.
Examples of currency pairs
➡️️ USD/EUR US Dollar to Euro
➡️️ EUR/GBP Euro to Great British Pound
➡️️ GBP/USE Great Britain Pound to US Dollar
➡️️ JPY/USD Japanese Yen to US Dollar
➡️️ ZAR/USD South African Rand to US Dollar
What are bid and ask prices?
👉 A forex quote has a base and a quote currency and this reflects the bid and ask price. The bid price is the price a buyer is willing to pay for a currency and the asking price is the price a seller is willing to sell the same currency.
👉 In other words, the bid price refers to the highest price a buyer is expected to pay for a currency in current market conditions. The ask price refers to the lowest price a seller will accept for the same currency.
👉 This may be confusing for beginner traders. This is because forex quotes are provided from the perspective of a forex broker. Just remember, a bid price is not the price you’ll offer when you want to buy a currency pair. When you’re buying forex, you’ll pay what the broker is asking for the currency. And when you’re selling forex, you’ll pay what the broker is bidding.
Why is the ask price always higher than the bid price?
👉 The ask price is higher than the bid price because the broker will always sell the base currency for more value and will always offer a lower price to buy the same currency. This is because the broker earns money on the difference between the ask and bid price, and forex prices are quoted from a broker’s perspective.
What is the spread?
👉 The difference between the bid and ask price is called the spread. The spread is the broker’s commission on the trade.
👉 Forex brokers make money from the spread. They quote two prices for any currency pair and receive the difference between the two prices under normal market conditions. The difference between the base currency and the quote currency is the spread.
👉 The spread is measured in pips. A pip represents the smallest unit of movement in the price of a currency pair. A pip is the last decimal point on the price quote.
👉 A wider spread means there is a greater difference between the bid and ask price in a currency pair. This indicates lower liquidity and higher volatility in this pairing. The tighter the spread, the better value you get as a trader.
|One pip movement|
|10 000 pips||1 000 pips||100 pips||50 pips||1 pip||0 pipettes|
How is the forex spread calculated?
👉 You calculate the forex spread of a currency pair using the last large numbers of the buy and sell price within the forex quote. You do this by subtracting the bid price from the ask price. The spread is based on the last large number in the price quote
Example: British Pound to US Dollar
If you’re trading GBP/USD at 1.3089/1.3091 : the spread is 2 pips
1.3091 minus 1.3089 = 0.0002
Example: Euro to US Dollar
If you’re trading EUR/USD at 1.0925/1.0926: the spread is 1 pip
1.0925 minus 1.0926 = 0.0001
If the EUR/USD moves from 1.09255 to 1.09260: the spread is half a pip
1.09255 minus 1.09260 = 0.00005
What is the difference between a direct and indirect forex quote?
👉 Forex quotes are usually displayed with the ‘home currency’ as a priority, meaning the country you reside in. If you live in the United States, your domestic currency is the USA and any other currency is foreign currency.
Example : USD/EUR 0.84954126
This is a direct quote for a trader living in the USA, and it’s an indirect quote for a trader living in Europe.
A direct quote is easy to read for the US trader : 1 USD will get a US trader 0.85 Euro.
It’s more difficult for the trader from Europe to read : 1 Euro will get a European trader 1.18 USD.
Forex traders prefer to trade with direct quotes because it’s easier to make an immediate calculation. You have to use equations for indirect quotes which is not convenient when the forex market is moving quickly and you’re on the ‘hop’.
How to calculate the value of a pip
👉 The pip value is calculated by multiplying one pip by the specific lot/contract size. For standard lots, this is 100 000 units of the base currency. For mini lots, this is 10 000 units.
➡️️ One pip movement in a standard contract is equal to $10 : 0.0001 x 100 000
➡️️ One pip movement in a mini contract is equal to $1 : 0.0001 x 10 000
👉 Therefore, every one pip in a favourable direction results in $10 or $1 profit. Likewise, if it moves in a negative direction, it will result in a $10 or $1 loss.
How do pips help forex traders?
👉 A single pip helps forex traders put a monetary value to their take profit targets and stop loss levels. Traders can determine how the value if their trading account will fluctuate as currency prices move up and down.
👉 The value of one pip is always shown in the currency of the quote currency (currency on the left side). If you are trading EUR/USD, the value of one pip will be displayed in USD.
6 things to remember when you’re reading forex quotes
- The base currency is the first currency in the pair and the quote currency is the second currency in the pair.
- The base currency is the bid price and the quote currency is the ask price.
- The difference between the bid price and ask price is the spread.
- Traders buy currency at the ask price and sell at the bid price.
- Bid and ask prices are quoted from the perspective of brokers because they make money on the spread.
- The smallest movement for currency pairs is one pip. This is a single-digit movement in the fourth decimal place of the quoted price and a single digit movement in the second decimal place for pairs.
FOREX TRADING AFRICA DISCLAIMER
Forex and CFDs are complex instruments and trading these instruments involves a high risk of losing money rapidly due to leverage. You need to understand how forex trading works and decide whether you can afford to take the risk of losing money on trade orders that do not go your way.
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