A currency pair is the quotation of the relative value of a currency unit against the unit of another currency in the foreign exchange market. The currency that is used as the reference is called the counter currency, quote currency or currency and the currency that is quoted in relation is called the base currency or transaction currency.
Currency pairs are sometimes then written by concatenating the ISO currency codes (ISO 4217) of the base currency and the counter currency, separating them with a slash character. Often the slash character is omitted, alternatively the slash may be replaced by and etc. A widely traded currency pair is the relation of the euro against the US dollar, designated as EUR/USD. The quotation EUR/USD 1.2500 means that one euro is exchanged for 1.2500 US dollars. Here, EUR is the base currency and USD is the quote currency(counter currency). This means that 1 Euro can be exchangeable to 1.25 US Dollars.
The most traded currency pairs in the world are called the Majors. They involve the currencies euro, US dollar, Japanese yen, pound sterling, Australian dollar, Canadian dollar, and the Swiss franc.
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Syntax and quotation
Currency quotations use the abbreviations for currencies that are prescribed by the International Organization for Standardization (ISO) in standard ISO 4217. The major currencies and their designation in the foreign exchange market are the US dollar (USD), euro (EUR), Japanese yen (JPY), British pound (GBP), Australian dollar (AUD), Canadian dollar (CAD), and the Swiss franc (CHF).
As has been mentioned previously, the quotation EUR/USD 1.2500 (or EURUSD 1.2500) means that one euro is exchanged for 1.2500 US dollars. If the quote changes from EUR/USD 1.2500 (or EURUSD 1.2500) to 1.2510, the euro has increased in relative value, because either the dollar buying strength has weakened or the euro has strengthened, or both. On the other hand, if the EUR/USD (or EURUSD) quote changes from 1.2500 to 1.2490 the euro has become relatively weaker than the dollar.
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Base currency
The rules for formulating standard currency pair notations result from accepted priorities attributed to each currency.
From its inception in 1999 and as stipulated by the European Central Bank, the euro has first precedence as a base currency. Therefore, all currency pairs involving it should use it as their base, listed first. For example, the US dollar and euro exchange rate is identified as EUR/USD.
Although there is no standards-setting body or ruling organization, the established priority ranking of the major currencies is:
- Euro
- Pound sterling
- Australian dollar
- New Zealand dollar
- United States dollar
- Canadian dollar
- Swiss franc
- Japanese yen
Historically, this was established by a ranking according to the relative values of the currencies with respect to each other, but the introduction of the euro and other market factors have broken the original price rankings. For example, while historically Japanese yen would rank above Mexican peso, the quoting convention for these is now MXNJPY, i.e. Mexican peso has higher priority than Japanese yen.
Other currencies (the Minors) are generally quoted against USD. Quotes against currencies other than USD are referred to as currency crosses, or simply crosses. The most common crosses are EUR, JPY, and GBP crosses, but may be against any other currency. The rates are almost universally derived, however, by taking the first currency's rate against the USD and multiplying/dividing by the second currency's rate against the USD.
Sometimes the term base currency may also refer to the [functional currency] of a bank or company; usually their domestic currency. For example, a British bank may use GBP as a base currency for accounting, because all profits and losses are converted to sterling. If a EUR/USD position is closed out with a profit in USD by a British bank, then the rate-to-base will be expressed as a GBP/USD rate. This ambiguity leads many market participants to use the expressions currency 1 (CCY1) and currency 2 (CCY2), where one unit of CCY1 equals the quoted number of units of CCY2.
The Majors
The most traded pairs of currencies in the world are called the Majors. They constitute the largest share of the foreign exchange market, about 85%, and therefore they exhibit high market liquidity.
The Majors are: EUR/USD, USD/JPY, GBP/USD, AUD/USD, USD/CHF, NZD/USD and USD/CAD.
Nicknames
In everyday foreign exchange market trading and news reporting, the currency pairs are often referred to by nicknames rather than their symbolic nomenclature. These are often reminiscent of national or geographic connotations. The GBP/USD pairing is known by traders as cable (also the cable), which has its origins from the time when a communications cable under the Atlantic Ocean synchronized the GBP/USD quote between the London and New York markets. GBP is also referred to by traders as quid. The following nicknames are common: "Swissy" or "Euro-Swissy" for EUR/CHF, Fiber for EUR/USD, Chunnel for EUR/GBP, Loonie and The Funds for USD/CAD, Aussie for AUD/USD, Gopher for USD/JPY, Guppy for GBP/JPY, Yuppy for EUR/JPY, and Kiwi or The Bird for the New Zealand Dollar NZD/USD pairing. New innovations include Barney for USD/RUB and Betty for EUR/RUB after the fictional characters the Rubbles in The Flintstones. Additionally, exotic pairs have earned more esoteric nicknames such as "Glock" for COP/SGN after the service pistol often carried by police officers (the ticker can be viewed as (Cop's G(u)n)). Nicknames vary between the trading centers in New York, London, and Tokyo. Care should be taken with the use of 'Betty, for EUR/RUB as, in London markets 'Betty' is used as cockney slang for Cable as in Betty Grable = Cable = GBP/USD.
Cross pairs
The currency pairs that do not involve USD are called cross currency pairs, such as GBP/JPY. Pairs that involve the euro are often called euro crosses, such as EUR/GBP.
Trading
Currencies are traded in fixed contract sizes, specifically called lot sizes, or multiples thereof. The standard lot size is 100,000 units of the base currency. Many retail trading firms also offer 10,000-unit (mini lot) trading accounts and a few even 1,000-unit (micro lot).
The officially quoted rate is a spot price. In a trading market however, currencies are offered for sale at an offering price (the ask price), and traders looking to buy a position seek to do so at their bid price, which is always lower or equal to the asking price. This price differential is known as the spread. For example, if the quotation of EUR/USD is 1.3607/1.3609, then the spread is USD 0.0002, or 2 pips. In general, markets with high liquidity exhibit smaller spreads than less frequently traded markets.
The spread offered to a retail customer with an account at a brokerage firm, rather than a large international forex market maker, is larger and varies between brokerages. Brokerages typically increase the spread they receive from their market providers as compensation for their service to the end customer, rather than charge a transaction fee. A bureau de change usually has spreads that are even larger.
Example: consider EUR/USD currency pair traded at a quotation of 1.33
In the above case, someone buying 1 EUR will have to pay 1.33 USD; conversely one selling 1 EUR will receive 1.33 USD (assuming no FX spread). Forex traders buy EUR/USD pair if they believe that the Euro would increase in value relative to the US dollar, buying EUR/USD pair; this way is called going long on the pair; conversely, would sell EUR/USD pair, called going short on the pair, if they believe the value of the Euro will go down relative to the US dollar. A pair is depicted only one way and never reversed for the purpose of a trade, but a buy or sell function is used at initiation of a trade. Buy a pair if bullish on the first position as compared to the second of the pair; conversely, sell if bearish on the first as compared to the second.
Source of the article : Wikipedia
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