So, you’re planning to take part in the biggest market in the world? The forex market has the capabilities to give you extremely huge profits, yet at the same time it also could get you bankrupt overnight. In other words, you must posses strong forex trading basics to protect your money from total loss and keep generating profits.

The Principle: You Always Sell and Buy At the Same Time

One of the most confusing ideas for people who are not informed about forex trading is the idea of "sell high buy low" to achieve profit. To put it differently, you "sell" first, then "buy" later. Just how could I sell something if I do not have anything in my possession?

It will be better to explain it with illustrations, so here it is:

You might have seen this before: EURUSD = 1.3578. It implies that 1 EUR is equal to 1.3578 USD.

• If you buy EURUSD at 1.3578, it implies that you RECEIVE 1 EUR and PAY 1.3578 USD. To put it differently, you buy EUR and sell USD at the same time.

• If you sell EURUSD at 1.3578, it means you PAY 1 EUR and RECEIVE 1.3578 USD. To put it differently, you sell EUR and buy USD simultaneously.

The Concept of Pips

A "pip" (percentage in point) is the smallest movement that a currency pair may have. Example: current GBPUSD is 1.7657, then it moves up 1 pip, it’ll become 1.7658. To put it simple, you need to simply watch the decimal number. Normally, 1 pip is 0.0001, but there are cases such as USDJPY where 1 pip is 0.01.

Let me provide another example:

• GBPUSD is 1.8700, then it moves up 4 pips, thus: 1.8700 (4 x 0.0001) = 1.8704.

• USDJPY is 100.24, then it moves down 4 pips, thus: 100.24 - (4 x 0.01) = 100.20.

The Concept of Leverage

Leverage is a system which allows common people who don’t have lots of capital to take part in currency trading. Quite simply, your broker "lent" you the capital that you need to support your trades.

Example: with 1:300 leverage and USD 500 deposit, you can trade 300 x 100 = USD 150,000 worth of currencies.

The Concept of Lots

In forex trading, you trade in "lots". Typically, the regular size for a lot is 100,000 for any base currency. In other words, if you deposit USD 500 at a forex broker that offer 1:400 leverage, then you can trade 500 x 400 = 200,000 worth of currencies or 2 lots. Depend on your broker, they can also provide you with 10,000 lot size.

The Concept of Profit and Loss

It is exactly like any other trades in the world, you’ll want to buy at low price and sell at high price. The only real difference here is that you could sell first when the price is high, then buy later once the price has fell. As I have explained above, it is possible since you always buy and sell simultaneously.

The profit/loss formula for any currency pair with 4 decimal (such as EURUSD) is:

(pip difference x 0.0001) x lot size x lot volume

Notice:

• Pip difference is sell price - buy price

• The result is in the right side of currency pair. Example: in GBPUSD, the result is in USD.

Illustration:

Buy 1 lot of EURUSD at 1.4500, then sell it at 1.4550

Pip difference: (sell price - buy price)/0.0001 = (1.4550 - 1.4500)/0.001 = 50 pips (profit).

Profit = (50 x 0.0001) x 100,000 x 1 = USD 500.

Mastering forex trading basics might seem difficult, but it can save you and tour money in the long run. An easier way to do it is simply open a demo account, then have a step by step lessons that you can practice immediately at the demo account. By using this method, you'll find it easier to comprehend the lessons and concepts.