How to Select the Right Currency Pairs for Forex Trading

The most important decisions that traders should make are choosing the right currency pairs in Forex trading. The currency pair that you will be trading exposes you to different economies and market conditions. With thousands of such pairs, determining which ones fit your type of trading can be an enormous difference in making or breaking your case of success.

Three major categories of currency pairs are available in Forex trading; they include minor, major, and exotic pairs. The highly traded major pairs involve the world’s largest economies, including the US dollar, euro, and Japanese yen. Minor pairs are those not as popular in the trade world but offer a significant amount of liquidity when compared to smaller currencies. Exotic pairs are made up of a major currency combined with a developing nation’s currency, and higher volatility and lower liquidity generally result from these combinations. For most traders, and especially for the novice, the focus on major currency pairs can be safer and more predictable.

The first consideration in selecting your currency pair is liquidity. Liquidity describes the ease with which a currency pair can be purchased or sold without changing the price of that pair significantly. Liquid major pairs such as EUR/USD, GBP/USD, and USD/JPY have high market participants, and practically negligible slippage occurs in their prices. Trading liquid pairs will be pretty easy because the markets are quite deep in terms of liquidity and spreads are very low, implying lower cost per trade.

Volatility is another aspect that needs to be considered. Volatility measures the degree of price movement within a currency pair. This means that volatility increases profit opportunities but also the risk. While most pairs, such as GBP/USD or USD/JPY, are quite volatile, EUR/USD may not be that volatile. Risk tolerance will determine the kind of pairs to trade; if you get uncomfortable with certain levels of volatility, it is advisable to avoid that kind of pair. Forex newbies can begin trading by using moderate volatility pairs so one is familiarized with market dynamics.

The other key consideration in selecting currency pairs is the economic environment. Each has an influence, being tied to the economic well-being of its respective country. Thus, if the U.S. economy is supposedly in great shape, then the U.S. dollar may strengthen versus other currencies. It’s said that major economic events like interest rate decisions, GDP reports, and inflation data create extreme movement in currency pairs. All the above events are recorded so that a trader can anticipate the movement of price and, hence, choose a suitable pair for trading.

Select a currency combination that considers overlap in time zones. This is because the Forex market operates 24 hours a day, seven days a week and different currencies are active at different times. For example if you want to trade during Europe or US sessions you can focus your attention on your major currencies to the EUR/USD or GBP/USD. When actively trading, being cognizant of time overlap significantly increases your chances of selecting more traded pairs.

It depends on your trading style, risk tolerance, and market knowledge with the choice of the right currency pair in Forex trading. The focused tendencies in the Forex market will definitely be towards understanding liquid pairs and their volatility, economic events, and optimal hours for trading.