What does a foreign exchange quote look like? Look at the following example:
EUR/USD = 1.2526
The above formula shows the foreign exchange rate between the euro and the US dollar.
Remember that in any forex quote, two currencies will always be present. This is because with forex trading, you are buying one currency as you sell another currency.
The first currency listed in a foreign exchange quote is called the "base currency." The second currency in the formula is the "quote currency." Therefore, forex quotes show us the relationship between prices for the two currencies in the quote.
The exchange rate is made up by showing how many units of the quote currency you have to pay in order to buy one unit of the base currency.
The euro is the base currency, above, and US dollars are the quote currency. The quote shows how each currency trades relative to the other. If you want to buy one euro unit, therefore, you will have to sell 1.2526 US dollar units.
Next is the "bid/ask" spread. The bid/ask spread is the alternative to broker commissions in the forein exhange market. Brokers get paid for their work via the bid/ask spread.
With the bid/ask spread added to the above example, it looks like this:
EUR/USD = 1.2526/1.2528
Simplified, it looks like this:
EUR/USD = 1.2526/8
Brokers make their money when they sell currencies for slightly more than they buy them. This is legal and every broker does it. However, the spread can differ significantly between brokers.
When you trade forex, you buy at the bid price, the first price in the above example. You then sell at the ask price, which is the second price quoted. The difference between those two prices is called a "spread;" this is what the broker makes as his or her profit on the trade.
In the above example, you've bought at 1.2526 and sold at 1.2528. The 0.0002, or two pips, goes to the broker as payment for executing the trade. When you look at it this way, you can see that the bid/ask spread is relatively simple and straightforward; it is a relatively easy way to calculate trading fees and expenses.
Tip
When trading currencies I would recommend that you stick to the seven major currencies. They are as follows:
