Key Takeaways:
- Forex trading involves currency pairs where one is bought and the other is sold, with the first currency as the base and the second as the quote.
- Currency pairs are categorized into majors (with the US dollar), minors (excluding the US dollar), and exotics (combining major and weaker economy currencies).
- Major pairs offer high liquidity and lower spreads, making them popular for trading.
- Traders must consider liquidity, spreads, and market availability when choosing currency pairs for their trading strategy.
Forex is the abbreviation of Foreign Exchange, that is, the currency exchange. The foreign exchange market is the largest and most liquid globally, with a volume per day that exceeds 5 trillion dollars.
In this market, assets come in pairs, so when you trade them, what you are doing is buying one currency and selling another.
In currency pairs, the first currency that appears on the left is called the base currency. The second currency is termed the quote currency. Therefore, if you have the pair EUR/USD = 1.0963, it means that 1 euro is equivalent to 1.0963 US dollars.
Certainly, here’s the information with subheadings for clarity:
Types of Currency Pairs – Explained
We have lots of types of currency pairs. Let’s get to know them better, shall we?
Major Currency Pairs
When operating in the forex market, currency trades are conducted with respect to the base currency.
For example, if there is a sentiment that the euro will depreciate against the US dollar, the euro would be sold, and the proceeds would be exchanged into US dollars. In this scenario, the euro is the base currency, and the US dollar is the counter currency in the traded currency pair. There is also Canadian dollar that major currency pair includes.
Traded Currency Pairs
It is also important to note that currency pairs in the forex market can be classified into major, minor, and exotic pairs.
Examples of Major Currency Pairs
Major currency pairs typically involve widely traded currencies such as the US dollar, euro, and Japanese yen.
For instance, the EUR/USD pair involves the euro as the base currency and the US dollar as the counter currency. The GBP/USD pair features the British pound as the base currency and the US dollar as the counter currency.
Minor Currency Pairs
On the other hand, minor currency pairs may not involve the US dollar as one of the currencies but are still relatively liquid and actively traded. For example, the AUD/JPY pair includes the Australian dollar and the Japanese yen, making it a minor currency pair.
Exotic Currency Pairs
Exotic currency pairs involve currencies from smaller or less frequently traded economies. These pairs tend to have lower liquidity and may be subject to higher spreads. An example of an exotic currency pair could be the GBP/TRY, which pairs the British pound with the Turkish lira.
Key Currency Terms and Concepts
Australian Dollar
In the context of forex trading, the Australian dollar (AUD) is one of the currencies that can be traded in various currency pairs, such as AUD/USD or AUD/JPY.
Japanese Yen
The Japanese yen (JPY) is another widely traded currency in the forex market, often paired with other major currencies like USD/JPY or EUR/JPY.
British Pound
The British pound (GBP) is a major currency that is frequently traded in pairs like GBP/USD or GBP/EUR.
Understanding these key currency terms and concepts is essential for successful forex trading. Traders need to analyze market sentiment and economic factors that impact these currencies to make informed trading decisions.Now, let’s take a look again on all these currency pairs, explained briefly, shall we?
FOREX MAJORS: the 7 major currency pairs that are considered to be the most popular across the world, all having the U.S. dollar as either base or quote currency: EUR/USD, USD/JPY, GBP/USD, USD/CHF, USD/CAD, AUD/USD, AND NZD/USD.
Minor pairs
Also known as cross pairs, minors are the currency pairs formed from the main pairs but eliminating the US dollar. In general, these pairs are also well liquid, and their spreads are not usually high.
They are: EUR/GBP, EUR/AUD, EUR/NZD, EUR/JPY, EUR/CAD, EUR/CHF, GBP/AUD, GBP/NZD, GBP/JPY, GBP/CAD, GBP/CHF, AUD/NZD, AUD/JPY, AUD/CAD, AUD/CHF, NZD/JPY, NZD/CAD, NZD/CHF, CAD/JPY, CAD/CHF, CHF/JPY.
FOREX MINORS: currency pairs formed from the main pairs but eliminating the US dollar. Some Forex minors include AUD/JPY, EUR/GBP, GBP/JPY, and NZD/CAD.
Exotic pairs
These currency pairs are combined with a major currency and a currency from an emerging economy or a slightly weaker economy. For example, the Won from South Korea, the Mexican Peso from Mexico, and the Hungarian Forint.
These currency pairs are not generally liquid as they are not as traded. It causes their spreads to be much higher than those of the major and minor pairs.
It is essential to know these rankings because even though Forex is said to be a 24/7 open market, some pairs will not be available at all times due to low liquidity. Keep in mind that operating them carries additional risks.
FOREX EXOTICS: currency pairs are combined with a major currency and a currency from an emerging economy or a slightly weaker economy. Some Forex exotics include EUR/TRY, USD/NOK, USD/ZAR, and USD/HKD.
Final Thoughts on Currency Pairs
In conclusion, the classification of currency pairs into major, minor, and exotic categories is crucial for any trader in the Forex market.
Understanding the liquidity, spread, and market availability of these pairs can significantly affect trading strategy and risk management. Major pairs, with the US dollar as a cornerstone, offer high liquidity and lower spreads, making them a popular choice for many traders.
Minor or cross pairs, while still reasonably liquid, provide a more diverse set of trading options without direct USD exposure.
On the other hand, exotic pairs present opportunities within emerging or smaller economies, albeit with higher spreads and potential risks due to lower liquidity.
As the Forex market operates around the clock, traders must remain informed about the various factors that can influence the availability and stability of these currency pairs to navigate the market effectively.
Bottom Line
Understanding the categorization of currency pairs (major, minor, and exotic) is essential in forex trading, as it affects trading strategies and risk management.
Major pairs, with the US dollar, offer liquidity and lower spreads, while minors provide diversity without USD exposure. Exotic pairs offer opportunities but come with higher spreads and risks due to lower liquidity. Traders should stay informed about market dynamics to make informed decisions.
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