Page 24 - Ultimate Guide to Currency Trading

long way in keeping you away from an easy come—easy go mentality. Think of it as a computer game
that you play competitively online, picking up points here and there, never risking your status as the
big winner by playing the game in a market that is too choppy, risky, or unprofitable.

Thinking of Relative Values

In order to trade currency effectively you will first need to realize that what is being traded are
currency pairs. Each currency pair consists of one currency sold into another currency. For example, a
short EUR/NOK trade is when one unit of EUR is sold and the proceeds are used to buy an equivalent
unit or units of NOK. It is good to think of units when trading currencies other than the U.S. dollar, as
that idea can help you keep the perspective that what you are trading is the relative value of euros to
Norwegian kroner. It is easier to think in unit terms rather than, "how much is a Norwegian krone
worth?" It can be daunting to go through the procedure of mentally converting one Norwegian krone
into your home currency (about 18 U.S. cents) and then converting one euro (about 141 U.S. cents),
and then proceeding to determine if one is overvalued against another in U.S. dollar terms. In this
EUR/NOK trade, each end of the pair's USD value can really confuse your idea of which way to trade,
either long or short.

If you think of the elements of the EUR/NOK trade in relative value, you can think in units of
EUR and units of NOK. You can take the unit of relative-value concept for further evaluation when
looking at a potential trade. Then you can evaluate market sentiment and questions of a fundamental
or technical nature more clearly. You are effectively horse trading, and when you look at trading in this
fashion, you begin to see major, minor, and cross pairs as a form of bartering. Think of the difficulties
of a monetary system of barter: someone offers to give you three chickens for your one baby piglet.
You have to decide and evaluate: the chickens lay eggs and are laying eggs right now; the baby piglet
has the potential to become a full-grown sow. What is each worth? If there were no money, this type
of decision making is what would go on in each economic transaction, whether you were paying for
rent or paying for coffee.

Currency trading is much the same. You are constantly forced to evaluate the value of each
end of a pair in relative terms. Play with the idea that there is no money: Euros, kroner, and francs are
not money. Play with the idea that they are the chickens, pears, and bushels of grain of a moneyless
world. This perspective will help when evaluating a currency pair: He wants to give me eight kroner for
my euro? No way! It's worth at least nine kroner!—She wants to give me eight bushels of wheat for
my one baby goat? No way! It's worth at least nine bushels!

The relative value of an FX pair might be different than when you studied it last. News
happens fast, and a currency can be revalued by the market, taking it to a new
semipermanent rate. If you haven't looked at a pair in a while, give yourself time to
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digest its fresh valuation before trading it.