Currency pairs are among the most popular questions I am always asked. Sometimes it surprises me how someone wants to trade forex while he/she still doesn’t know about currency pairs. But I should not be surprised, because we always focus on advanced topics like technical analysis, candlesticks and indicators and … that we forget about the basics. We do not consider that beginners may have difficulties in understanding the currency pairs that are the foundation of forex and forex trading.
What are the currency pairs in the forex world?
In stock market, you trade shares of companies. You buy and sell them. You pay money to buy stocks. But what if you wanted to trade or buy and sell a currency?
In the stock market, companies’ shares are commodities and the currency you pay to buy them is the money. It is the same in any other kind of trading. You pay money to buy a commodity. In forex or foreign currency exchange, you trade currencies. So again, you have to pay something to buy something else. You pay a currency to buy another currency. You sell a currency against another currency. To be able to do that, they have created currency pairs. For example EUR-USD is a currency pair. In each currency pair, the first currency is the commodity and the second currency is the money. In EUR-USD, the first currency which is Euro is the commodity and the second currency which is USD is the money. When you buy EUR-USD, in fact you pay USD to buy Euro. No matter in what currency your forex trading account is. You can have a trading account in USD, GBP, CAD or any other currency. When you want to buy EUR-USD, your broker changes your trading account capital into USD and then pays that USD to buy Euro. This is how it works. Any trade in forex market has to be done through USD. US dollar is the main currency and is the axis of all transactions in the forex market. Any currency pair that you buy or sell has to be done through USD. However, all of these process will be done automatically and you just need to click on the buy or sell buttons.
Lets get back to our example, EUR-USD. I told you that when you buy EUR-USD, in fact you pay USD to buy Euro or you buy Euro against USD. In forex market it is possible to sell EUR-USD even before you buy it. How? Let me give you an example. You borrow my car for two weeks. Suddenly you see someone wants to buy the car from you with a good price like $5000 above the real price. You sell my car. But you have to return my car after two weeks, right? When it is time to return my car, you go and buy the same car exactly, but with the real price which is $5000 lower than the price that you sold my car. You return my car while you have made a $5000 profit.
This is what we do when we sell a currency pair before we buy it. You sell EUR-USD high and buy it low. You sell it low and buy it lower.
When you buy a currency pair, you take a “long” position and when you sell a currency pair, you take a “short” position. Long and short are just the terms we use in forex and stock market and they have nothing to do with the length of anything. They are just terms. Of course usually it takes longer for the price to go up and shorter to go down. That’s why when you buy, they say you have a long position because it may take a long time for the price to go up. And when you sell, they say you have a short position because it may take a shorter time for the price to go down.
Anyway! So when we say we go long with EUR-USD it means we buy it and visa versa.
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