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What is a currency pair?

What is a currency pair?

What is a currency pair?

Forex trading would not be possible without currency pairs. In this article, we will learn what a currency pair is, how it is designated, which currency is known as base and which is quote. We will also consider the hierarchy of currencies on the modern market and see what groups currency pairs are divided into. We will also look at the concept of “quotation” and check different quotation types.

At soon as traders start using the trading platform, they are faced with designations like USD/JPY, Bid - 103.674, Ask - 103.677. In our example, USD/JPY is the currency pair. There are more than a hundred state currencies in the world at the moment, and each of them forms many currency pairs.

Currency pair designation

Each Forex currency pair is designated as a three-letter currency code based on the ISO 4217 standard. For example, in the EUR/JPY currency pair, the EUR code stands for Euro, and the JPY code stands for Yen.

Each currency pair consists of the base currency, which is the first in the pair, and the counter or quote currency, which comes after the base currency.

What are base and quote currencies?

A currency pair denotes the symbols of two currencies participating in the exchange, in our case the dollar (USD) and the Japanese yen (JPY). The first currency in a pair is bought and called the base currency. The second specified currency in a currency pair is sold and called quote currency.

The numbers indicate the current quote of the currency pair. A quote is a designation of the current exchange rate of the two currencies in the pair. The Bid column shows the current buy price, and the Ask column shows the current sell price. In other words, a quote shows the value of one currency in relation to the other. In our case, to buy $1, you need to sell ¥103.674. We can also say that the current dollar rate is 103.674 Japanese yen.

Hierarchy of currency pairs

On the Forex market, some currencies are more important than others. This affects the position the currency takes in the pair – whether it is base or quote.

The established priority rating for the six most frequently traded currencies is as follows: EUR> GBP> AUD> NZD> USD> CHF> JPY

According to this traditional hierarchy on the Forex market, there are pairs EUR/USD and CHF/JPY pairs, but there are no USD/EUR or JPY/CHF. In the case of the EUR/USD currency pair, EUR is the base currency because it is higher in the hierarchy than the USD.

Most of the less popular currencies are represented on Forex as pairs with the US dollar, which serves as the base currency. For example, there is the USD/TRY pair that represents the exchange rate of the dollar to Turkish lira and USD/MXN for the dollar to the Mexican peso.

Types of quotes

Direct quote

There are several types of quotes. In the so-called direct quote, the base currency is the US dollar. An example of such a currency pair is the USD/JPY. The quote for such a pair indicates how much ¥ you need to buy $1.

Indirect quote

In an indirect quote, the dollar becomes the quote currency against the base national currency. For example the EUR/USD shows how many dollars you need to buy 1 euro.

Cross rates

There is a third type of currency pair called cross rate. An example of such a pair is the GBP/JPY. There is no US dollar in these pairs, but the quotes are calculated based on the exchange rate of each currency against the dollar.

Groups of currency pairs

All currency pairs are classified into groups according to the daily trading volume of the respective pair.

Major currency pairs (majors)

The US dollar is the world's reserve currency. The largest number of monetary transactions are made in this currency. The most popular currencies paired with the US dollar are called major currency pairs or majors.

Minor currency pairs (minors or crosses)

Currency pairs that do not include USD are called minor pairs, minors or crosses. These pairs have wider spreads, but are still fairly liquid. The crosses that include individual major currencies tend to trade with the highest volume. The examples of minor pairs with fairly high liquidity are the EUR/GBP and the EUR/CHF. At the same time, the AUD/CAD and the NZD/CHF have low liquidity.

Exotic currency pairs

Exotic currency pairs include currencies of emerging economies. These pairs have low liquidity and wide spreads. An example of such a pair is the USD/TRY.

It is important to take into account that the definition of direct and indirect quotes for each trader may differ depending on their location, since it depends on which currency in the pair is national and which is foreign. However, for the convenience of traders, on the foreign exchange market it is customary to indicate the type of quote regardless of location. Therefore, even for a trader from the United States, the EUR/USD pair will be considered an indirect quote.

What are the best currency pairs to trade?

Every novice trader usually wonders which pairs are best suited for trading? Is there a way to get more profit and less loss? However, there is no clear answer to such questions as the choice of an instrument mostly depends on the trader, on their experience, knowledge, skills and the selected trading strategy.

For example, traders who prefer intraday transactions are recommended to open positions in highly liquid currency pairs - majors. Majors have the smallest spread, which is important for short-term positions, and high liquidity provides the best quotes and quick execution even with large volumes.

If a trader prefers to trade based on long-term trends, they can choose a less liquid or exotic currency pair. Such currencies usually have high spreads and small dynamics of changes during the day or even weeks. However, various macroeconomic events can dramatically affect the movement of the exchange rate over a long period of time. Using fundamental market analysis, a trader can expect significant changes in the exchange rate in the long term. Such a strategy can result in high profits even with small volumes of open positions.

Professional traders tend to operate between these two extremes and use every trading opportunity regardless of the chosen trading instrument.

For most Forex brokers currency pairs are forming the main part of the trading instruments they provide. For novice traders, we recommend starting with high liquidity assets, since they are considered to be less risky. Although some currency pairs are traded less than others, with a properly chosen trading strategy, every available asset can provide significant profits.

Article last updated: 2022-10-28

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