What Is Traded and How? Understanding Currency Pairs

What are you actually trading?

When you trade Forex, you are in a real sense trading the relative strength of two economies. Every currency pair reflects the market's collective view of how one country's economy is performing against another's. If you believe the US economy will strengthen relative to Japan's, you buy USD/JPY - and in doing so you are simultaneously buying Dollars and selling Yen. There is no way to buy just one currency; the value of any currency only exists in relation to another. This is why Forex quotes always come in pairs. Thinking of a pair as a single tradable instrument, rather than as two separate things, makes trading far clearer. USD/JPY has its own chart, its own price behaviour and its own personality. When that chart rises, the Dollar is strengthening against the Yen; when it falls, the Yen is strengthening against the Dollar. Your job as a trader is to judge which of those two outcomes is more likely.

How a currency pair is written

A currency pair is written as two three-letter codes separated by a slash, for example EUR/USD = 1.1800. The first currency, EUR in this case, is called the base currency. The second currency, USD, is called the quote currency (sometimes the counter currency). The number is the exchange rate, and it tells you how many units of the quote currency are needed to buy one unit of the base currency. So EUR/USD = 1.1800 means that one Euro buys 1.18 US Dollars. If the price rises to 1.2000, the Euro has strengthened - it now takes more Dollars to buy one Euro. If it falls to 1.1600, the Euro has weakened. A helpful habit is always to read the pair from the base currency's perspective: 'How much is one unit of the first currency worth in the second?' Applying this to USD/ZAR = 18.50, one US Dollar buys 18.50 South African Rand.

The eight major currencies

While there are many currencies in the world, the vast majority of Forex trading revolves around just eight, sometimes with colourful market nicknames. These are the most economically significant and most heavily traded currencies, and knowing them is essential shorthand for any trader.

• USD - United States Dollar (nickname: the Buck)
• EUR - Euro (nickname: the Fibre)
• JPY - Japanese Yen
• GBP - British Pound (nickname: Cable)
• CHF - Swiss Franc (nickname: the Swissy)
• CAD - Canadian Dollar (nickname: the Loonie)
• AUD - Australian Dollar (nickname: the Aussie)
• NZD - New Zealand Dollar (nickname: the Kiwi)

Major pairs

The major pairs are the most liquid and most widely traded instruments in the entire Forex market, and every one of them contains the US Dollar on one side. Because they attract the most volume, they typically have the tightest spreads, meaning the lowest trading costs, and they behave in relatively orderly, well-studied ways. For beginners, the major pairs are almost always the right place to start. The table below lists the commonly recognised majors along with their nicknames. EUR/USD alone accounts for a huge share of global daily volume and is the single most traded pair in the world, which is why it is often the first pair new traders learn to read.

Minor pairs (crosses)

Minor pairs, also called crosses, are any combination of the eight major currencies that does not include the US Dollar. Examples include EUR/GBP, EUR/JPY, GBP/JPY and AUD/NZD. Historically, converting between two non-Dollar currencies required first converting into Dollars and then out again, but modern platforms quote these crosses directly. Minor pairs are still highly liquid, though generally a little less so than the majors, which means their spreads tend to be slightly wider. Some crosses are popular precisely because they can move a great deal: GBP/JPY, for instance, is well known for its large daily ranges and is sometimes nicknamed 'the Dragon' or 'the Beast' by traders because of its volatility. That volatility offers opportunity but also greater risk, so crosses are usually better suited to traders who already understand how the underlying major pairs behave. A beginner is generally wise to build competence on the majors before venturing into the more energetic crosses.

Exotic pairs and the Rand

Exotic pairs consist of one major currency paired with the currency of a smaller or emerging-market economy. Common examples include USD/ZAR (Dollar Rand), USD/MXN (Dollar Mexican Peso), USD/TRY (Dollar Turkish Lira) and USD/THB (Dollar Thai Baht). For South African traders, USD/ZAR is naturally of great interest, but it is important to understand what trading an exotic pair involves. Exotic pairs have much lower liquidity and considerably wider spreads than the majors, meaning your trading costs are higher and your entries and exits may suffer more slippage. They can also be extremely volatile, moving sharply on local political events, central bank decisions or shifts in global risk appetite towards emerging markets. The Rand in particular is known as a high-beta currency that can swing violently when global investors move into or out of risk. While there are opportunities in these pairs, they are generally harder to trade profitably and less forgiving of mistakes. Beginners are usually best served focusing on the majors until they have solid experience.

Frequently asked questions