Learn Forex Today: The Concepts Of Lot, Leverage and Profit or Loss
Learning is not the same as earning. But if you play your cards right, forex is a potentially lucrative opportunity to build the lifestyle that you want.
Many have tried and benefitted from forex trading, but losing money is a real possibility. Many beginners find it difficult to get started and end up wasting their hard-earned capital.
On top of our usual trading signals, we are now also working on Blueberry Bites or tidbits of information on the basics to advanced topics of forex. For starters and to give ourselves a leg up, let’s answer some basic questions to learn forex concepts today and overcome the fears of trading.
In forex terms, what is a “lot”?
Currency trading is typically done in pairs. The standard trading practice is to buy one currency and then sell another in the forex market. Almost all currencies have prices that are stated up to the fourth decimal place.
Every currency pair is quoted in “pips” or percentage in points. A “pip” can be understood as the change in a currency’s value compared to another. It is the smallest increment when trading currencies and is usually expressed as 1/100 or 1%.
A “lot”, on the other hand, refers to how many currency units are being offered for sale or are available for purchase. Lots can vary in size. A nano lot is 100 units of a base currency; a micro lot is 1,000 units; a mini lot is 10,000 units, and a standard lot is 100,000 units.
Lot Size Variations
To maximize one’s returns from the changes in currency values, trading in big numbers is necessary. Let us examine the difference between a mini lot and a standard lot in forex trading.
Given: US dollar being exchanged for Japanese yen at an exchange rate of 105.
For a mini lot, the value per pip can be computed as (0.01/105) x 10,000, which gives us a value of $0.95 per pip. At the same evaluation, for a standard lot, this becomes (0.01/105) x 100,000, which is $9.52 per pip.
When the US dollar is quoted last, here are sample illustrations.
- Assuming that PHP to USD is exchanged at a rate of $0.021, the computation for a mini lot is (0.0001/0.021) x 10,000 x 0.021, which is $1 per pip.
- For EUR to USD at a rate of $ 1.1930, pip value can be calculated as (0.0001/1.1930) x 10,000 x 1.1930, or $1 per pip.
The table shows the differences in per unit pip value for the sample currencies in the above illustrations.
|Currency Pair||Closing Price||Pip Value per Unit||Pip Value: Standard Lot||Pip Value: Mini Lot||Pip Value: Micro Lot||Pip Value: Nano Lot|
It should be noted that the pip value moves as the market moves. However, it depends most on the currencies being traded.
How does leverage work?
Forex leverage is the amount of trading funds a broker is willing to credit an investment. Simply stated, it is the borrowed capital from a broker so a trader can increase potential returns. In reality, the amount of leverage varies from one broker to another.
No matter how big the lot size a trader wants to buy and sell, the amount that a trader actually invests is a very small portion of the leverage credit size. Take $100,000 worth of currency units as an example. If leverage is pegged at 100:1, 1% is the required investment. This means that only $1,000 has to be given to the broker to open an account for trade. This is not a fee, but a required deposit called margin.
During trading, the broker will fund the rest of the amount. The $1,000 will make up for possible losses due to changes in currency values. Any gain will be added to the account.
How is profit or loss computed?
We will solve for the profit or loss based on this information:
- We will buy US dollars and then sell Swiss francs.
- Offer price is 1.4530 and bid price is 1.4525.
- Lot size is standard.
- At the end of the day, the bid-ask quote becomes 1.4550/1.4555. We decided to close the trade.
We buy at 1.4530, since the offer (or ask) price is used when buying. To close the trade, we will sell at the bid price of 1.4550. The bid price is the basis when selling. To compute for the profit or loss, it will be (1.4550 – 1.4530) x 100,000 x (0.0001/1.4550) or $137.40. Since the price at closing is higher than the initial price, we can say that we generated a profit of $137.40.
With forex, a small amount can possibly go a long way. Adequate knowledge can help anyone to get off on the right foot. While a broker normally does all the math, it is important to become familiar with the terminology in use. After all, it’s our money (and reputation) on the line.
All the learning won’t bring the earning if you don’t get your skin in the game, though. The good news is that you can have a no strings attached 30-day demo with a $50,000 seed fund by clicking here. That will definitely deepen your knowledge of these four terminologies, and our 24/7 customer service team treats no customer inquiry as insignificant or small.