The answer in three lines
- A currency pair prices one currency in another; buying EUR/USD means buying euros and paying in dollars.
- Moves are measured in pips and positions in lots, so the size you choose decides what each pip is worth.
- Retail forex is almost always leveraged, which is why regulators cap leverage and why position sizing matters more than direction.
How forex trading works is simpler to describe than to do well: you exchange one currency for another, hoping the rate moves in your favour before you exchange back. Everything else, from pips to margin calls, is detail about how that exchange is measured, financed and priced by the broker in the middle. This guide works through those details in the order a learner usually meets them.
What exactly is a currency pair?
A price of one currency expressed in another. The first is the base, the second is the quote.
When EUR/USD shows 1.0840, one euro costs 1.0840 US dollars. Buying the pair (going long) means you expect the euro to strengthen against the dollar; selling it (going short) means the opposite. Because every trade is a relative bet, there is no such thing as a currency simply "going up": the euro can rise against the dollar while falling against the Swiss franc on the same afternoon.
Pairs are usually grouped into majors (the US dollar against the euro, yen, pound, Swiss franc, Canadian, Australian and New Zealand dollars), crosses that leave out the dollar, such as EUR/GBP, and exotics involving smaller or emerging-market currencies. Majors normally have the tightest spreads; exotics can cost many times more to trade and move in sudden jumps.
Why are there two prices on every quote?
The bid is what the broker pays you when you sell; the ask is what you pay when you buy. The gap is the spread.
A quote of 1.0839 / 1.0840 means you can sell at 1.0839 or buy at 1.0840. If you buy and immediately sell, you lose the one-pip difference. That spread is the most basic trading cost, and on many retail accounts it is the only visible one. Spreads widen when liquidity thins, typically around the daily rollover at 17:00 New York time, over major data releases and on Sunday evening when the market reopens. Our guide to hidden trading costs covers commissions, swaps and conversion fees as well.
What is a pip, and what is a lot?
A pip is the standard unit of price movement; a lot is the standard unit of trade size.
For most pairs a pip is the fourth decimal place, 0.0001. For pairs quoted in Japanese yen it is the second decimal place, 0.01. Many brokers quote one more digit, a fractional pip or pipette.
A standard lot is 100,000 units of the base currency; a mini lot is 10,000 and a micro lot 1,000. For any pair quoted in US dollars, one pip on one standard lot is worth $10, because 100,000 × 0.0001 = 10. For USD/JPY, one pip on a standard lot is 1,000 yen, which at a rate of 150.00 is about $6.67. The pip calculator does this conversion for any pair and size.
How does leverage change the picture?
It lets a small deposit control a large position, so it multiplies losses exactly as much as gains.
A 0.5-lot EUR/USD position is 50,000 euros, which at 1.0840 is worth $54,200. Nobody learning the market is expected to put up $54,200 for that. Instead the broker asks for margin, a deposit set by the leverage ratio. At 30:1, the maximum for major pairs for retail clients in the UK, EU and Australia, the margin is about $1,806.67. At the US limit of 50:1 it is $1,084.
The margin is not the most you can lose; it is the collateral the broker holds while the position is open. If losses eat into your account so that the equity falls to half of the required margin, UK and EU rules require the broker to start closing positions. Retail clients in those regions also have negative balance protection, so the account cannot go below zero, but that protection is not universal. Use the margin calculator to see collateral for different sizes and leverage settings.
How forex trading works on one trade, step by step
Illustrative only: a 0.5-lot EUR/USD long with a 30-pip stop risks $150 and a 60-pip target would make $300, before costs.
- Entry: buy 0.5 lots of EUR/USD at 1.0840. Each pip is worth 0.5 × $10 = $5.
- Stop-loss: 1.0810, which is 30 pips below entry. If hit, the loss is 30 × $5 = $150, plus the spread.
- Target: 1.0900, which is 60 pips above entry. If reached, the gain is 60 × $5 = $300.
- Margin at 30:1: $54,200 ÷ 30 ≈ $1,806.67 held as collateral while the trade is open.
- Holding costs: suppose the broker's overnight charge were $4 per night on this size. Held from Monday to Friday afternoon, the position rolls over four times, and the Wednesday rollover usually counts triple to cover the weekend, so you would pay for six nights: $24.
Notice what decides the outcome in money terms: not the direction, which you control only by guessing, but the size, which you control completely. The position size calculator works backwards from the amount you are prepared to lose.
When is the market open, and when is it busiest?
From Sunday 17:00 to Friday 17:00 New York time, with the heaviest activity when London and New York overlap.
The trading day follows the sun through financial centres: Sydney and Tokyo, then London, then New York. Activity, and therefore liquidity, is highest when two large centres are open together. The London and New York overlap in the European afternoon is typically the busiest stretch for EUR/USD and GBP/USD, while yen pairs see more activity in the Tokyo session. Between the New York close and the Asian open, spreads widen and prices can gap on unexpected news.
What moves exchange rates?
Interest-rate expectations above all, followed by economic data, capital flows and changes in risk appetite.
- Central banks. Decisions and guidance from the Federal Reserve, the European Central Bank, the Bank of England and the Bank of Japan change the relative return on holding each currency.
- Scheduled data. Inflation, employment, growth and trade figures come out on published calendars, and prices often move sharply in the minutes after release.
- Risk appetite. When investors grow nervous, money tends to move towards the US dollar, the yen and the Swiss franc, and away from currencies tied to commodities or emerging markets.
- Flows and positioning. Large trade payments, investment flows and crowded speculative positions can move rates independently of the news.
If you want to understand what is moving forex today, the economic calendar and recent central bank statements are more useful starting points than any headline about where a pair "should" go.
Who is on the other side of a retail trade?
Your broker, one way or another. How it manages that position shapes its incentives.
Some brokers pass client orders to external liquidity providers and earn a commission or a markup on the spread. Others act as the counterparty themselves, taking the opposite side of client trades and managing the net exposure internally. Many use a mix. Neither model is automatically unfair, and both are permitted under regulation, but you should know which one applies, how the broker handles slippage and whether prices are ever requoted. These are part of what to check before choosing a broker. Trading software such as the MT4 platform is only the screen; the firm behind it sets prices and holds your money.
Is forex different from changing money for a holiday?
The rates come from the same market, but a holiday exchange is a one-off conversion with a markup, not a leveraged position.
The screen rate you see quoted is close to the mid-market rate between banks. A travel-money counter or card provider adds its own margin to that rate. Our page on foreign currency trading explains how to measure that margin and how it differs from speculative trading.
Follow-up questions
How much money do I need to trade forex?
Brokers set their own minimums, and micro lots mean positions can be small. The more useful question is how much you can afford to lose: size each trade so that a stop-loss costs only a small share of that amount.
Is forex trading legal everywhere?
No. Some countries restrict or ban retail forex trading or limit it to local licensed firms. Check your own regulator's rules before using any provider, especially one based abroad.
Why did my position close before it hit my stop-loss?
Most likely a margin close-out: losses reduced your equity below the broker's close-out level. It can also happen when the spread widens sharply, because a long position is closed at the bid price, which may reach your stop before the chart's mid price does.
Sources
- European Securities and Markets Authority, product intervention measures on CFDs
- UK Financial Conduct Authority, CFD rules for retail clients
- US Commodity Futures Trading Commission and National Futures Association, retail forex leverage limits