The basics of reading a forex quote

The basics of reading a forex quote

The foreign exchange market can be a baffling place for newcomers, and one of

the sources of confusion is the forex quote. A forex quote is a small bit of

information, yet it’s packed with numbers that may not make sense to someone

unfamiliar with the forex system. Here’s a basic explanation of how it works.

A forex quote consists of a currency pair -- forex deals always involve

simultaneously selling one currency and buying another -- a bid price and an ask

price. For example, one quote might be this:

USD/JPY 118.71/75

The first currency is the base currency, and the other one is the quote currency.

The value of the base currency is always 1 -- in this case, 1 U.S. dollar. The

number tells you how many of the quote currency (the Japanese yen, in this

case) you can buy with $1.

But what kind of number is 118.71/75? It’s actually forex shorthand for two

numbers: 118.71 and 118.75. The lower number is the bid price, the other is the

ask price. The bid price is the price that dealers will buy the base currency for.

The ask price is what dealers will sell it for.

So if the above were the current quote, it would mean right now, you could SELL

U.S. dollars in exchange for 118.71 yen per dollar. Or, if you preferred, you could

BUY U.S. dollars at a rate of 118.75 yen per dollar.

The difference between the bid price and the ask price in a forex quote is called

the “spread,” and those tiny units are called “pips.” In our example, the spread for

USD/JPY was four pips. The spread is usually that small for the most commonly

traded currencies, which means anything involving the U.S. dollar, Japanese

yen, Great British pound, the euro, Swiss franc or Australian dollar. In fact,

thanks to the great competition in the forex trading market, some quotes will have

spread of as little as one pip.

Of course, for less commonly traded currencies, the spread can be much greater.

And even when the quote delivers a small spread, it adds up when you’re trading

hundreds of thousands of units. If you were dealing with 100 U.S. dollars, the

difference between selling them for 11,871 yen and buying them for 11,875 yen

wouldn’t be much at all -- just four yen. But if it were 100,000 U.S. dollars,

suddenly that four-pip spread means a 4,000-yen difference. So the spread in a

quote is more important than its smallness would suggest.

 

Posted in: