Forex Lots (contracts)
In Forex, positions are quoted in terms of ‘lots’, in futures trading you have probably heard of ‘contracts’, well, lots can be thought of as ‘Forex contracts’. The common nomenclature is ‘standard lot’, ‘mini lot’, ‘micro lot’ or ‘nano lot’ (micro and nano lots are also called ‘flexible lots’). We can see examples of each of these in the chart below and the number of units they each represent:
- A Standard / Full Lot – Controls USD $100,000
- A mini Lot – Control USD $10,000
- Flexible Lot – You nominate the amount
PIP VALUES
- A Full Lot – 1 PIP = $10 USD
- A mini Lot – 1 PIP = $1 USD
- Standard / Full-Size Contracts control 100,000 units of whatever the base currency in the currency pair is. So for instance, if you were to buy one full-size contract on the EUR/USD, you would control €100,000 because the euro is the base currency in the pair.
- Mini-Contracts control 10,000 units of whatever the base currency in the currency pair is. As you can see, a mini contract is one-tenth the size of a full-size contract.
- Micro / Nano / Flexible Contracts allow you to choose the exact amount of a currency you would like to control. If you want to control 84,392 units or 2,755 units of the currency you are interested in, you can do that with a flexible contract.
- Being able to choose among full-size, mini and flexible contracts allows you to tailor your investing to best meet your investment style and strategy. This yet another huge advantage of Forex trading that you won’t find available in any other market.
Order Types
- GTC (Good till cancelled): A GTC order remains active in the market until the trader decides to cancel it.
- “Valid Until”: Most brokers allow you to choose a time and date expiry into the future.
- Pending/working: If an order is not executed instantly (e.g. market orders), it will become a pending order. This means it will sit with the broker’s computer system until it is filled.
- Contingent: Consist of order legs which are activated if one order is filled (If / Then orders). For example, if buy entry is filled then stop loss and limits become active orders.
- OCO – Contingent order: “Once Cancels the Other”. So if you had a limit order for your target and a stop loss, you could set them as OCO orders, that way when one is triggered the other is cancelled.
- Executed Orders: Previous orders which have been filled.
- Market order – Instant execution at current price. A market order is an order to buy or sell at the current market price. The traders clicks on the buy or sell button after having specified their deal size. The execution of the order is instantaneous, this means that the price seen at the exact time of the click will be given to the trader. Placing a market order by phone is quite similar but usually takes a few seconds more time.
- Limit order – Predefined order level (pending in system). A limit order is an order placed to buy or sell at a certain price. The order essentially contains two variables, price and duration. The trader specifies the price at which he wishes to buy/sell a certain currency pair and also specifies the duration that the order should remain active.
- On-Stop order – A standing (pending) order which becomes a market order once the market moves up into it (buy stop) or down into it (sell stop). A stop order is also an order placed to buy or sell at a certain price. The order contains the same two variables as a limit order, price and duration. The main difference between a limit order and a stop order is that stop order is an order which stands in the market and then becomes a market order. Prices must move from the current level to breach or touch the specified “stop level” to become active order. Stop orders don’t always fill at the price you decide.
They are usually used to limit loss potential on a transaction or enter markers on breaks from key price points (break outs and break downs). The same variations are used to specify duration as other orders (GTC and Valid Until).
On-Stop Order Examples:
- Example (stop loss): A trader is expecting a 160 pip move in the market but he wants to protect himself in case he has overestimated the potential strength of the Euro. He knows that 1.2400 is a support level so he places a stop loss order to sell at 1.2370 (30 pips under) that level if it is broken. The trader has effectively limited his risk on this particular trade.
- Example (enter on stop): Another usage of a stop order is when a trader is expecting a price breakout to occur and wishes to grasp the opportunity to ‘ride’ the breakout or break down. In this case a trader will place an order to buy or sell ‘on stop’.
- As you can see from what we have already learned, there are significant opportunities and risks in foreign exchange markets. Due to quick market movements, we must use strict stop-loss policies in positions that are moving against you.
- There will nearly always be an opportunity to react to moves in the main currency markets and a low risk of getting caught without the opportunity of getting out. A stop-loss order is by no means a guarantee of getting out at the desired level.
- The main risk is usually an event over the weekend that causes price to gap open when the new week begins. This happens from time to time as many important political events, such as G7 meetings, are normally scheduled for weekends.
- Gap’s are a phenomena of prices attempting to trade / fill in space where prices have not traded. The slippage/gap in prices for example from Friday to Monday may be 50 pips. That is “space” on the chart that did not see any prices trade / print. The phenomena is called a gap, and prices will attempt to facilitate trade into that gap and fill the gap. It’s all about price distribution and time vs. price.
Markets always tend to fill gaps, and you will notice prices gapping in currency and index’s relatively often…then, like magic, those gaps fill. Once the gap is filled it can act as resistance/support. Some people also trade the gap by entering a trade if the market gaps down or up, and they expect the price to move to fill the gap.
- If you hold a trade over the weekend the market can gap against you or for you…keep that in mind.
- When holding over the weekend or during major news announcements we use a guaranteed stop.
- A “guaranteed stop loss” is a contract between the broker and the trader. This order is guaranteed to execute your position at an agreed price, but this costs a small amount (2 to 5 pips). Not all brokers may offer ‘’guaranteed stop losses”.
- For speculative trading, it’s always recommend that traders use protective stop-loss orders.
Calculating Risk Per Trade & Profit and Loss
It’s much easier to just use a position size calculator for this, but it’s good to understand how to calculate the value you’re trading per-pip, that is to say, the dollar per pip value and also the potential profit or loss on a trade…
Finding the value of a pip…
You probably already know that currencies are measured in pips, and one pip is the smallest increment of price movement that a currency can move. To make money from these small increments of price movement, you need to trade larger amounts of a particular currency in order to see any significant gain (or loss). This is where leverage comes into play; if you don’t understand leverage totally please go read Part 1 of the course where we discuss it.
So we need to know now how lot size affects the value of one pip. Let’s work through a couple examples:
We will assume we are using standard lots, which control 100,000 units per lot. Let’s see how this affects pip value.
1) EUR/JPY at an exchange rate of 100.50 (.01 / 100.50) x 100,000 = $9.95 per pip
2) USD/CHF at an exchange rate of 0.9190 (.0001 / .9190) x 100,000 = $10.88 per pip
In currency pairs where the U.S. dollar is the quote currency, one standard lot will always equal $10 per pip, one mini-lot will equal $1 per pip, one micro-lost will equal .10 cents per pip, and a nano-lot is one penny per pip.
Converting back to home currency…
When converting back to Australian Dollars, we must know the exchange rate of the offshore currency verse Australian dollar.
AUD base currency must always come first
E.G. – $100 USD in Australian Currency
Amount divided by the exchange rate (AUDUSD)
$100 / 0.7000 = $142
Calculating risk per trade…
- Using a 25 pips stop and risking no more than $200, you would trade 8 mini lots…
- $200/25pips = 8 mini lots if one mini lot is worth $1 a pip.
Calculating Profits & Loss…
- When working out profit and loss, we always talk in Terms of the “Second Currency” in the case of EURUSD, the result is shown in USD
Example:
- You see that the rate for EUR/USD is 1.1800 and decide to sell 10,000 EUR. Your trade is executed at 1.1800.
- 10,000 EUR * 1.1800= 11,800 USD
You sold 10,000 EUR and bought 11800 USD.
- After you trade, the market rate of EUR/USD decreases to EUR/US = 1.1400.
- You then buy back 10,000 EUR at 1.1400
- 10,000 EUR *1.1400 = $11,400 USD
The result:
- You sold 10,000 EUR for $11,800 and bought 10,000 back for $11,400. The difference is your profit:
- $11800 – $11400= $400 USD
Profit & Loss Calculations ‘short cut’…
- When trading lots, we can work out profit and loss very easily.
- If we are “long” 5 mini lots of the EURUSD at 1.2000, then sell them at 1.2350, we take a profit of 350 pips.
- We can work out the profit in 2 steps.
- 5 mini lots @ $1Usd per pip = $5Usd per Pip
- = $5 * 350 = $1750 profit
- A Forex Position and Risk Calculator will help in your day to Day Trading Activities.
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