Do not limit your perspective to the most traded currency pairs. Forex majors are the most liquid and therefore the most popular. Still, you should not discard other options. These more obscure combinations may also be lucrative. If you look beyond EUR/USD, GBP/USD, and USD/JPY, you will see many viable opportunities.
Some currency pairs do not include the US dollar. This article will give you the basics of trading cross pairs – i.e., Minors and Exotics. If you know how these instruments move, you can capitalize on these changes. The process is similar to trading the biggest currencies
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What is a Cross Pair?
A Forex cross pair is a combination of currencies that does not include the American dollar. Typical examples of currency pairs traded in India include AUD/CAD, EUR/GBP, CHF/JPY, EUR/NZD, and more. As you can see, crosses may be connected to strong economic powers like Switzerland.
Before the Second World War, the global financial system was based on the gold standard. Following the Bretton Woods agreement of 1944, most currencies in the world became linked to the US dollar. The American currency itself was backed by gold. Back then, if you wanted to exchange an amount of money from your local currency into a different currency, you would first turn it into the USD.
Fortunately, the advent of cross pairs made the process easier. Now, you can bypass the conversion to the dollar altogether. Instead, you turn your money into the desired currency in one go.
Calculation of Currency Cross Rates
So, how are such combinations created? Here are the basics. For example, take EUR/GBP. This pair shows how many British pounds one Euro costs.
First, here’s how the price for sellers is calculated. It is based on two elements: the Bid/Ask price for GBP/USD and the same indicator for EUR/USD. These two pairs are chosen, as they both include the American dollar as the counter currency.
At the moment, GBP/USD is valued at 1.2887 (Bid) and 1.2889 (Ask). EUR/USD stands at 1.1286 (Bid) and 1.1287 (Ask). To achieve our goal, we need to divide Bid for the base currency by Ask for the counter currency:
EUR/GBP (Bid) = 1.1286/1.2889 = 0.8756
Now, let’s define the Ask price, which is valid for buyers of the cross pair. To do this, do the opposite. Ask for the base currency is divided by Bid for the counter currency. This is what we get:
EUR/GBP (Ask) = 1.1287/1.2887= 0.8758
Not an easy task, right? Fortunately, Forex brokers do these calculations for you. They determine the size of the spread, which may constitute their profit. Everything is now automated! Some cross combinations are also low spread currency pairs.
Range of Currency Pairs
Cross pairs belong to three categories. First, there are combos with the most popular majors like EUR, JPY, and GBP. These pairs offer decent liquidity, which is an important strength.
Highly liquid instruments are chosen by many traders, so buyers and sellers have little difficulty connecting in the market. In addition, sudden extreme changes in the rates are unlikely. This is true for pairs like EUR/GBP, GBP/JPY, and CHF/JPY.
Secondly, there are lesser-known combinations without big currencies. They are less popular among traders and also significantly volatile. This means that their rates are more susceptible to political and economic factors and may change dramatically. For instance, this is true for NZD/CAD.
If you look at the recent charts for the pair, you will notice long candlesticks, both bearish and bullish. Such patterns make it challenging to predict the movement of the prices. Traders need to be extra cautious and always base decisions on meticulous analysis.
The third group comprises the so-called exotic pairs. These include currencies of emerging and less robust economies like Turkey or Iran. These systems are often more vulnerable to external shocks, and they are associated with political and financial instability. Common examples are CHN/JPY, EUR/TRY, and EUR/CNH.
Trading exotics is not for the risk-averse. Traders should have deep knowledge of the local economies and manage risks wisely. It is crucial to set stop loss for every single position, regardless of your confidence and the result.
Benefits of Trading Cross Currency Pairs
So, if cross pairs are less popular, why trade them at all? First, fundamental analysis is more easily applicable to these instruments. For example, if the latest economic release drives the Euro up, while the USD is also robust, the price action for EUR/USD may be flat. At the same time, you may be able to profit from pairs which include either of these two currencies.
Of course, it is not always easy. You should base decisions on the convergence of different indicators and thorough analysis. Keep track of all the major political and economic changes in the countries whose currencies you trade. Make sure your sources are reliable, as mistakes due to misinformation could be expensive.
Read more how to trade with Olymp Trade MT4 platform
Let’s now return to the previous example with positive news for the Euro. If the US dollar is relatively strong, the market for the pair will be trading sideways. In such conditions, traders find it difficult to spot emerging trends and ride on them. Meanwhile, they may profit from buying and selling cross pairs which include the Euro, for example, EUR/GBP.
As the UK is currently struggling with Brexit controversies, its currency has weakened markedly. This explains why the Euro is stronger than the British pound. If you were trading the pair, you could count on further strengthening of the Euro to reinforce the uptrend. The base currency would push the pair higher.
Other benefits of trading cross pairs include:
1. Carry Trading
This fundamental strategy is perfectly applicable to cross currency pairs. A trader may short sell the currency with a lower interest rate to buy a currency with a higher interest rate. The difference between these rates constitutes their swap or the profit they gain. In carry trading, positions are held for extended periods of time.
2. Trading of Majors
If you follow crosses, you may predict the movements of majors and find the best currency pairs to trade. Crosses help you evaluate the relative strength of their elements. Their price charts could give clues for trades with other instruments.
What if you saw bullish signals for two pairs (e.g., EUR/USD and GBP/USD), but found it difficult to pick one? In this case, you could use your analysis of a cross duo – EUR/GBP – to make your decision. If you notice the pair gaining value, this means that the euro is rising against the British pound, and it is best to opt for EUR/USD.
Cross pairs are worth your attention, as they can bring high profits and help you trade Majors. They also follow the basic logic of Forex trading currency pairs login for trade. Both fundamental and technical analysis can help you succeed. However, be careful when you trade the most volatile currency pairs. The more you can gain – the higher the risk.