Trading Terms Along with Their Definitions
In the realm of online trading or the derivative market, one will frequently encounter a plethora of terms and their respective meanings. These specific terminologies, inclusive of their abbreviations, often remain enigmatic to many. Indeed, there exist several fundamental terms in the trading world that necessitate comprehension.
The subsequent portion of this discourse elucidates the often-encountered terminologies within the trading sphere, particularly in the context of the forex world.
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Margin
In the realm of trading, margin refers to the requisite deposit or capital needed to initiate or uphold a trading position. The concept of margin is bifurcated into 'used' and 'free'. The term used margin, also known as equity, represents the capital amount utilized to sustain a trading position.
On the other hand, free margin signifies the fund amount available in your account to buffer against market fluctuations, and it can also be leveraged to initiate additional trading positions.
Spread
Spread signifies the discrepancy between the sell price and the buy price, or bid and ask, of a currency pair. To illustrate, suppose the currency pair EUR/USD stands at bid 1.3200 ask 1.3203, the spread is 3 pips, namely, the gap between 1.3200 and 1.3203.
Pips
Pips, an acronym for Percentage in Points, translates to the fourth decimal place of a currency rate, or the decimal point in the case of the American dollar. A pipette refers to the fifth decimal place as mentioned above.
We might frequently hear or read about pips, such as a profit of 25 pips or a loss of 56 pips. This essentially means the difference between the pips at which a transaction is opened and closed. Therefore, if one opens a BUY position at 1.3600 and the chart ascends to 1.3620 before closing, the transaction value reflects an increase of 20 pips. This would result in a profit of 20 pips.
Leverage
In a nutshell, leverage is akin to a fulcrum that allows an investor or trader to transact with a capital far exceeding their own. Forex brokers, for example, provide leverage ranging from 1:1 up to 1:1000. If a trader avails of the 1:1000 leverage facility, it means that the capital they possess is multiplied by 1000 times the value of the deposit they have implanted. Thus, the forex trading access provider lends us as much as our capital is multiplied by 1000.
Using substantial leverage requires adept financial management, as the loan provided by the broker to the trader becomes larger and the capital to be provided individually becomes smaller. This facility provides the trader with a fulcrum that allows them to increase a significant amount of capital for transactions far exceeding the deposited capital or deposit.
Simplistically, if we submit a capital of 1000 USD, using the 1:1000 leverage facility, our capital seems to become 1 million USD. With leverage, one can magnify their profits but also heighten the potential for loss if the position one opens moves against the price forecast. Therefore, for those learning to trade, it would be prudent to use smaller leverage to minimize potential losses.
A Letter of Transaction, colloquially referred to as a "lot," represents a specific quantity of a standard contract, serving as the unit for each foreign exchange transaction conducted. Typically, 100,000 units of the standard currency are used for a standard or regular account, while 10,000 units are employed for a mini account, and a micro account utilizes a mere 1,000 units. The size of the lot inherently determines the magnitude of the transactions we partake in the forex market. If one possesses a larger capital or equity, it is feasible to conduct foreign exchange transactions with larger lots. However, it is imperative to remember that a higher risk of loss accompanies this, although naturally, the opportunity for substantial profit also increases.
The term "liquidate" essentially entails closing an open position of a contract. A contract to buy is closed by selling the contract, while a contract to sell is closed by repurchasing the contract. Before continuing with further terminology, one may consider taking a Preliminary Test to gauge the extent of comprehension of trading and its related terminologies.
In forex trading, two-way trading is a widely recognized concept, encompassing market conditions, whether on the rise or decline. To reap profits when the market is ascending, one should purchase at a low price and sell at a high price, a strategy known as a long position. Conversely, if the market is descending, one should ideally sell at a high price and then buy at a low price, a strategy referred to as a short position.
The term "sideways" represents a state in which the market does not actively rise or fall, but rather moves within a relatively confined range.
A "swap" typically refers to an overnight fee or interest charged or given to you if you hold an open position exceeding one trading day.
"Stop loss" or "cut loss" is a term implying the limitation of losses in trading. Many trading applications automatically implement this feature. One simply needs to input the anticipated loss amount as the maximum loss limit, and the application will automatically close the position if such a loss occurs.
"Support" is often described as the lower price/price resistance level below the current market/running price, where buying interest should ideally dominate selling pressure, maintaining the price and preventing it from falling.
"Resistance" is typically mentioned as the upper price/price resistance level above the current market/running price, where selling pressure should be strong enough to dominate buying pressure, thus maintaining the price and preventing it from rising too high.
"Rebound" refers to a price bounce in the market, usually following a significant decrease, or typically used as a term for bullish movement. Understanding these trading terminologies would be beneficial if one intends to engage in trading.
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"Risk Management" is a structured approach or methodology in handling uncertainties related to threats, often said to limit losses or risks occurring in the market.
"Risk Aversion" is a market phenomenon where investors avoid buying high-risk instruments such as stocks and switch to low-risk or safe-haven instruments, like gold, for example.
"Rollover" is a type of interest or fee that must be paid to hold a trading position for more than one night. Each currency fraction has an inherent interbank interest ratio, and since it is transacted in pairs, each trade involves not only two currencies but also two different interest ratios.