Phantom Trading’s 4-Part Beginner’s Guide To Forex Trading
Part 1: A Basic Introduction To The Forex Market
Part 2: The Different Forex Pairs And Markets
Part 3: How To Get Started Trading The FX Market
Part 4: The Journey To Becoming A Forex Trader
How To Get Started Trading The FX Markets
Learning The Basics of Forex
If you’re completely new to forex, you’ve come to the right place. This article is being written just for you. In this section we’ll be covering everything from pips to lot sizes, margin accounts to reading candlesticks and more. Besides that we at Phantom have put together a short lesson on Youtube, Udemy and within the Phantom Trading Membership course that covers all of these topics in a concise and easy to understand package – just in case you’d rather watch a video than read about it.
Pips (Percentage In Points) & Ticks
For our first mini lesson we’re going to go over what pips and ticks are so you can better understand how to read the prices of forex pairs. For most of us, we are used to using dollars and cents, pounds and pence, or euros and euro cent.
To put it simply, a pip (percentage in point) is the 4th decimal place in a price quote, and a tick is the 5th decimal point in a price quote for most currencies.
The only exception to this rule is in Yen pairs where the quote currency is the Japanese Yen. See our diagrams below for an even clearer explanation.
Bid, Ask, Spread & Commissions
Next we have Bid, Ask, and Spread which if you’ve traded any other market you may already be familiar with. If you’re not, we’ll explain what each of them are and what they represent. Remember, the bid and ask and spread vary greatly between each type of asset class and their respective instruments and changes based on things like liquidity and volatility in the markets.
The bid is the one most people are familiar with. Similar to an auction house, the bid is the highest price that buyers are willing to pay for an asset at that very moment in the market.
The ask on the other hand is the lowest price that sellers are willing to sell an asset for at that very moment in the market.
Finally, the spread is the gap between the ask and bid (what sellers are willing to sell for, and what buyers are willing to pay). When someone bids up the market by offering to pay higher prices for it, it causes prices to rise, and when sellers bid down by offering to pay lower prices for it, prices fall.
What else determines and affects spreads? Spread is typically set by a brokerage or exchange and is almost considered a small fee for getting into a particular market. The other thing that can affect spreads is the supply and demand of that particular security in the market. In some cases, if an instrument that is being traded has extremely low liquidity (low supply and/or demand) you’ll likely see very high spreads when trying to enter a position. On the flip side, certain brokers will offer extremely low, or little to no spreads in order to attract traders to their brokerage. See below for a diagram that explains it all visually which may help aid in your understanding.
Remember, the price of a stock, equity, currency pair, or security is always quoted using the bid price, so the price of the security in the example above is $1.30556 with a current spread of 0.2 pips / 2 ticks.
Although it can be hard to calculate spread since the bid and ask prices can change multiple times per second, you can calculate it by taking the asking price and subtracting the bid price from it. Most trade terminals and trade entry assistants and lot size calculators will calculate and display spread for you on the fly. Our favorite lot size calculators are Magic Keys and Trade Assistant – which are both available for MT4/MT5.
Commissions & Fees
Lastly, we have commissions and fees. Again, this is another necessary evil that almost every trader is familiar with if they’ve ever taken a trade or invested in their life. Commissions are set by brokerages so they can make money on us traders. If you’re trading currencies through a forex broker you’re likely going to be charged a round-trip commission per lot in whatever the base currency is of your account.
For example, if your broker charges $5.00 USD round-trip per lot, and you put on a 10-lot position, you’ll be paying $50 in commissions for that trade, automatically deducted from your position when you open it. If your broker charges $5.00 USD to open a position and $5.00 to close a position, your round-trip commission per lot is $10.00 USD.
Within the stock market, it works a bit differently – again depending on who your broker is, but typically you’ll see something like $5.00-$10.00 USD per trade round-trip or per entry and exit of a position no matter how many shares of a stock or equity you buy. In some cases, your broker may even claim to have “no fees” but don’t be deceived, you’ll often pay for fees in the form of high spreads you’re not even aware of. This is more of a problem with new trading apps (brokers) that allow you to buy any stock, equity, or cryptocurrency and claim to be super easy to use and have low or no fees.
With forex brokers, fees, spreads, and commissions are pretty clear cut – but you’ll have to watch out more for unregulated, predatory forex brokers that won’t let you withdraw your funds! Not to worry, there are plenty of good resources out there that will help you with picking a good broker or prop firm to trade with so you can avoid this problem. Our personal favorite forex broker review site is Forex Peace Army. Stick to well-rated, regulated brokers and you can trade and withdraw profits, with no problem.
Margin Trading & Leveraged Accounts
As mentioned in the lot size and position sizing section, you’ll need a leveraged margin trading account in order to trade in this market, unless you have a few million dollars of your own money lying around. The reason we need leverage in the forex market is that currency pairs move in such small increments. When compared to stocks or equities, currencies are really not that volatile, so in order for us to capitalize on these small movements in the market, we need to borrow money from our broker and put on leveraged positions.
Lot Sizes (Position Sizing)
Next, we have lot sizes and position sizing. This is an important thing to understand when trading the fx markets because it is directly tied to managing risk. Without proper position sizing, you can easily over-risk and blow your account in just a single trade so we need to take extra care when calculating how many lots to put onto a position when executing a trade. To put it simply, you’ll need to calculate
|Position Size||Lots||Currency Units||$ Per Pip|
Order Types: Market Orders, Limit Orders, and Long/Short Positions
There are about 8 different order types to choose from, each with its own advantages and disadvantages. Here is a list of them:
- Limit Buy Orders (Long Positions)
- Limit Sell Orders (Short Positions)
- Market Buy Orders (Long Positions)
- Market Sell Orders (Short Positions)
- Stop Limit Buy Orders (Long Positions)
- Stop Limit Sell Orders (Short Positions)
- Stop Loss Orders (SL)
- Take Profit Orders (TP)
Whether you’re completely new to trading or have a little bit of experience with trading another market, we know it can be a bit daunting to understand what each order type does, so we’ll do our best to cover it below so you’re not stressing out next time you find yourself trying to enter or exit a position in the market.
A Market order consists of simply entering the market at the current price. If you’re entering a long position (buy order) you’ll get filled at the current ask price, and if you’re entering a short position, you’ll get filled at the current bid price. This is a fast and effective way to get into a market without waiting around but should be reserved for more advanced traders who have the self control and experience to stop themselves from entering 20+ positions in one day and who have experience with timing their entry in the market.
The benefit to entering positions with this order type is also its drawback, you get filled exactly when you hit that market execution button. This means if price moves deeper into the level you want to enter from you’ll get a better fill, but if price moves away from the level you want to enter, you’ll get a poor fill.
Next we have limit orders, which are considered the most beginner friendly order type. Why is it beginner friendly you ask? Well, it’s simple, wherever you leave your entry level (limit order) is the price you’re going to get filled (with the exception of extraneous circumstances). Not only is it more accurate, but you also have to wait to get filled on your order. It will not trigger unless the bid touches your order at the price level you’ve chosen to buy or sell at.
The only exception to this rule is if there is a lack of liquidity and high volatility in the market, in which case price can either slip through your order (not filling it), or in certain conditions the market will fill your order at a worse (or sometimes better) price. This typically only happens when there are high-impact news events in forex or things like earnings releases for stocks. Either way, if you’re new to trading, limit orders are the best all round order type and we suggest sticking to them until you get comfortable with entering and exiting the market.
Stop Limit Orders
Next we have stop limit orders (not to be confused with stop loss orders). This one is a favorite among breakout traders in any market because it will fill your limit order from the opposite side. To better understand how these order types work, imagine a simple buy limit order with a stop loss below it and take profit above, and imagine you’re in a market that is trending up. When price pushes up from below the stop loss and touches the limit order from below it will execute the trade and place the stop loss order below it and take profit level above it.
While we at Phantom Trading trade breakouts, but we very very rarely use this order type because we just don’t have much of a use for it. Within the FX market you’ll often notice that price likes to “whipsaw” or “grab liquidity”, and we find that this order type is especially susceptible to this type of manipulation in the market.
Stop Loss Orders
It could be argued that this is the most important order type in your tool kit. At Phantom Trading we advocate ALWAYS using a stop loss. There is never ever, EVER a scenario when you shouldn’t be using one. So what is a stop loss order? You’ve probably heard the term thrown around a lot, but maybe you don’t understand what it is or how it works.
It’s pretty simple, all a stop loss order does is determine how much you’re willing to go in draw down for any given trade before cutting your losses. When your stop loss is hit, it simply results in a losing trade.
We are allowed to move the stop loss order in the direction of the trade (toward your entry and take profit levels), but under no circumstance should we ever move it further away from the entry level. This may seem like an obvious thing for those of you that have trading experience, but you’d be surprised at the number of novice traders that violate this simple rule.
Before entering any trade you should know exactly how much you’re risking and exactly where the stop loss order should be placed in relation to your entry level.
Take Profit Orders
Next we have Take Profit orders. There are really four different ways you can exit a position in any market. Either you can:
- Exit the position in full by manually closing your trade. (manual full TP)
- Exit the position in full by waiting for price to hit your take profit level (full TP / hard TP)
- Partially exit the position by manually closing a portion of your trade (manual partial TP)
- Partially exit the position by waiting for price to hit your partial take profit levels (partial TP)
To put it simply, take profit orders are much like stop loss orders, except for paying yourself profits on a position by exiting in profit, hence the name “take profit”.
Long Positions (Buy Orders)
A long position is when we simply buy the base currency against the quote currency (also known as counter currency).
When the price of a pair moves up from our entry we profit, and if price falls we’ll lose profit on our position. With the way that we trade at Phantom Trading, we always use a stop loss order to manage the size of our loss which is defined by what we are willing to risk per trade. If our stop loss is 3 pips and price rises 15 pips from our entry level, that would be considered a +5R trade (because we’re making 5x what we’ve risked on the position). If price falls and hits our stop loss, that is considered -1R. See the long position diagram below for reference.
Short Positions (Sell Orders)
A short position is when we short sell in the market, which within the forex market simply means buying the quote currency (counter currency) against the base currency. This is the opposite of taking a long position (buy order).
Profiting in a short sell position in the forex market is exactly the same as taking a long position, but flipped around. When the price of a pair moves down from our entry we profit, and if price rises we’ll lose profit on our position. If our stop loss is 3 pips and price falls by 15 pips from the entry level, that would be considered a +5R trade (because we’re making 5x what we’ve risked on the position). If price rises and hits our stop loss, that is considered -1R. See the short position diagram below for reference.
If you trade the stock market, you may be familiar with shorting which is characterized as borrowing shares of a stock or equity from your broker (usually at a premium or with higher fees and limitations) to sell short, this in principle is the same as when we take a short position (sell) in the currency markets.
Reading Japanese Candlestick Charts
The next fundamental skill you’ll need to learn is reading Japanese candlesticks. While you could trade with a line chart, you’ll soon realize it’s impractical because it lacks the versatility and depth of information a Japanese candlestick provides. Aside from reading single candlesticks on different timeframes to get a picture of what an instrument is doing for that interval of time, you’ll also need to learn how to read candlesticks in succession in a chart and read what the market is communicating to you. We’ve provided some easy to understand diagrams below to illustrate how to read and understand candlesticks.
Basic Supply & Demand
Once you’ve learned the dead basics of reading Japanese candlesticks, you can start learning to recognize and mark up supply and demand levels. At Phantom Trading we trade supply and demand zones along with market structure, which we’ll cover in the next section.
Next we have market structure, which we’ll use to determine the trend of the instrument you’re trading on each of the respective timeframes you’re analyzing as part of your multi-timeframe analysis. Market structure is an extremely important component of conducting your analysis because, without it, you may find yourself trading against longer-term trends. While this isn’t a bad thing, it just means you’re trading against the overall momentum of the market, and you may find that the profitability and probability of the trade working out is lower.
Now, to tie everything, we’ll want to do our analysis on the higher-timeframes, mid-timeframes, and finally our lower-timeframe analysis before executing our trade ideas. The reason we perform a multi-timeframe analysis is to figuratively and literally check our blind spots. Without understanding what is happening from a macro perspective, we can’t expect to reliably and accurately understand what is happening from a micro perspective. To give you an example, what we teach at Phantom Trading is conducting a top-down analysis from the weekly, daily, 4-hour, 15-minute, and finally doing a lower-timeframe analysis if you’re trading intraday on the 1-minute chart.
Economic News Events (Fundamentals)
Last but not least we have economic news events. This is extremely important to be aware of because high-impact news events often create large volatility spikes in the market. You don’t necessarily need to understand or try to call out how you think the market will react to high-impact news, and in fact we advise against trading news, but you should be acutely aware of if there are news events on any given day that you’re trading.
Why do we advise against trading news? The primary reason why we don’t trade news is that the huge spikes in volatility paired with low liquidity in the markets during high-impact news releases can cause the price of the instrument you’re trading to literally slip through stop-loss orders, resulting in huge losses (as a multiple of the amount of money you originally intended to risk), or can result in blowing funded and/or personal trading accounts. In fact, most prop funding firms have restrictions around trading certain high-impact news events for this very reason. The exposure to risk is way too high, even for them.
Aside from being aware of high-impact news, it doesn’t hurt to keep up to date with major geopolitical events going on in the world to help you understand the why behind certain moves in the market, however, with the way we trade at Phantom Trading, it’s not our primary focus nor do we rely on fundamentals for making decisions from an intraday perspective.
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Robert Castillo – Currency & Commodities Trader,
Financial Analyst, Writer & Editor.
Robert is a funded trader based out of Toronto, Canada, and has been trading currencies, commodities, stocks, and cryptocurrencies for over 7 years. Outside of trading he enjoys producing music, mixed martial arts, and riding his motorcycle in the summer.