Trading Basics

If you are a novice trader then this section will help you to understand the basic concepts of trading Currencies, CFDs and Precious Metals online.

Overview of the FX markets

The Forex market is the largest financial market in the world. Nearly $5.3 trillion (according to the BIS 2013 volume survey) worth of foreign currencies trade back and forth across the Forex market every day. Forex stands for the foreign exchange—the financial exchange on which governments, banks, international corporations, hedge funds, and individual investors exchange foreign currencies. 

What is FX trading?

FX or Forex Trading is the name given to trading one currency against another. When you go on holiday for example, you may sell your Sterling and buy US Dollars (if you are visiting the USA). For example you may find 500 pounds will buy you US$800 at the bank on a given day. Then the following day the rate has moved and you are now receiving fewer dollars in return. This is the basic concept of FX trading (exchange rates are moving constantly).

All Foreign Exchange rates are quoted in pairs. For example if we were selling Sterling (GBP) and buying Dollars (USD), this would be written in shorthand as GBPUSD. In this example GBP is referred to as the base currency, and USD is referred to as the counter currency. The price at which this hypothetical trade would be carried out is the exchange rate between the two currencies.

The final factor to consider is the amount of currency you wish to buy or sell. In the world of FX trading, this is referred to as the lot size. One lot is the equivalent to 100 000 of the base currency. You can buy or sell in lots or in fractions of lots, for example mini lots and micro lots. The ability to either buy or sell is a very important advantage of FX trading. This means you can speculate on a rise OR fall in the currency pair.

One other advantage of FX trading is that you do not have to pay the full cost of the trade upfront. Forex is traded on leverage. If you are trading on 1:100 leverage this means you will typically pay 1% of the value of your trade as a deposit; thus freeing up your funds.

What moves the markets?

The key to making money in the forex market is understanding what makes currency pairs move. Ultimately, it is investors who make currency pairs move as they buy and sell different currencies, but these investors buy and sell for a reason. Either they see something happening fundamentally in the global economy that makes them believe a currency is going to get stronger or they see something happening fundamentally that makes them believe a currency is going to get weaker. In other words, they watch the fundamentals and make their decisions according to what they see. Fundamentals make currency pairs move. If the economic fundamentals in the United States are improving, the U.S. dollar (USD) will most likely be getting stronger because forex investors will be buying dollars. Conversely, if the economic fundamentals in the United States are declining, the U.S. dollar (USD) will most likely be getting weaker because forex investors will be selling dollars.

Trading Precious Metals

The most common metals that are traded on spot transactions are gold and silver. The trading technique involved with spot gold and silver is almost identical to that of Forex.

The metals are paired with one of the major currencies, generally with USD and traded in the same way. When a unit of gold is bought a unit of the currency involved is sold. In recent times gold, and to some degree silver have been heavily traded due to the 2008 recession and the subsequent market turmoil. It is traded in much the same way as spot currencies, enabling clients to take both long and short positions depending on what is happening to the price of the underlying metal.

Spot metals such as gold and silver are priced in USD with a required margin starting at 1% at a leverage of 1:100. XAU/USD represents gold against USD. If you put a buy order in for gold, you are in turn selling USD and vice versa. A standard unit of spot gold is 1 lot. One lot of gold is the equivalent of 100 troy oz.

What is a CFD?

A CFD is a type of financial instrument that allows speculation on the price of shares or on a share index. CFD stands for ‘Contract for Difference’. A CFD is an agreement between two parties to settle, at the close of the contract, the difference between the opening and closing prices of the contract, multiplied by the number of underlying shares specified in the contract. Basically this means that CFDs are a way to speculate on the price movement on shares or indices without actually purchasing the underlying share or index.

CFDs are traded in a similar way to ordinary shares. The prices quoted will follow the underlying market price and you can trade in any quantity just as you would with an ordinary share. However, there are some distinct differences from trading ordinary shares that have made them increasingly popular as an alternative instrument to speculate on the movements of shares or indices. For example, CFDs allow you to go long or short and thus speculate in the rise or fall of a share. There is no stamp duty charged on CFDs because you do not own the underlying share.

The key advantages

  • No stamp duty

    Unlike traditional share dealing, there is no stamp duty to pay on a CFD trade..

  • Profit when markets fall as well as when they rise

    With CFD trading, you can trade on the price of a product going down as well as going up. It doesn't matter which way the markets are going, you can back your judgement either way, exploiting selling opportunities just as easily as buying opportunities. Many investors use CFDs as a way of hedging their portfolios.

  • Efficient use of your capital

    One of the key advantages of CFD trading is that you can ‘trade on margin', which gives you 'leverage'. This means you can trade without having to put down the full value of a position and, as your money is not all tied up in one transaction, you can use it for other investments.

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