In the Forex market, all currencies are priced and quoted in terms of pairs like USD/JPY or EUR/USD.
This is because all currency trading involves the simultaneous buying and selling of two currencies. The “base currency”, the first currency of the quoted pair, will form the basis for all trading.
This means the currency pair will denote how much of the second currency, the “quote currency”, is required to purchase one unit of the base currency.
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Currencies Quoting Conventions
The US dollar, because it is the world’s reserve currency and the most traded currency, is usually regarded as the base currency when it comes to currency quotes.
Thus, it is common to find currencies being expressed in relation to $1 USD. The exceptions to the above norm are the Australian dollar, Euro and the Great Britain pound where the US dollar is expressed in relation to one unit of these foreign currencies.
Like most financial assets, currency pairs are quoted with a “ask” and “bid” price. The “ask” price is the price which you can buy the base currency for from the market maker in exchange for the quote currency.
The “bid” price on the other hand, is the price which you can sell the base currency to the market maker for the quote currency.
The difference between these two prices is known as the “spread” and it is the margin that the market maker will earn in lieu of a commission. To differentiate between the two prices, it is useful to note that the “ask” price is always higher than the “bid” price.
Currency pairs are furthermore classified into “Major” currencies and “Minor” currencies. They are the most traded currencies and are also the most liquid of all currencies. In fact, the major currencies account for around two third of the total volume of Forex traded.
The currencies that make up the major currencies are those which mostly belong to the G7 countries in addition to the Australian dollar and the Swiss Franc.
Together, these currencies made up seven of the most traded currencies in the Forex market. The following list below denotes the seven currencies that are regarded as the “major” currencies in the Forex world:
- AUD – The Australian Dollar
- CAD – The Canadian Dollar
- CHF – The Swiss Franc
- EUR – The EURO
- GBP – The British Pound
- JPN – The Japanese Yen
- USD – The US Dollar
They are commonly traded as the following currency pairs:
With regards to minor currencies, they are basically all those currencies that falls outside the definition of “major” currencies. These currencies are comparatively less traded and their percentage spread between the “ask” and “bid” price are also higher than those of the “major” currencies.
It is vital to know the concept of currency pairs as it shows what is essentially happening during a Forex transaction.
The Forex market faces no restriction in respect of “short selling” unlike the stock market. The significant of this is that you can always flip a Forex transaction thus allowing you to short-sell a currency pair without any restriction.