In the world of forex trading, you might have come across the term currency cross pair. If you are new to trading or looking to expand your knowledge, understanding forex cross pairs is essential. This guide will explain what a currency cross pair is, why it matters, and how traders use these pairs to diversify their strategies.
Understanding Currency Pairs in Forex
Before we dive into currency cross pairs, let’s first understand how currency pairs work in forex trading.
A currency pair is a combination of two currencies that are traded against each other. In forex trading, one currency is bought while the other is sold. The most well-known currency pairs are major pairs, which always include the US dollar (USD) as one of the currencies. Some of the major pairs include:
- EUR/USD(Euro/US Dollar)
- GBP/USD(British Pound/US Dollar)
- USD/JPY(US Dollar/Japanese Yen)
- USD/CHF(US Dollar/Swiss Franc)
These pairs are popular because they have high liquidity and are traded frequently in the forex market.
What is a Currency Cross Pair?
A currency cross pair is any forex pair that does not include the US dollar. Instead of trading directly with the USD, these pairs allow traders to exchange one currency for another without using the US dollar as a middle currency.
For example, instead of trading EUR/USD and then USD/JPY, a trader can directly trade EUR/JPY. This simplifies transactions and sometimes reduces the cost of conversions.
Examples of Forex Cross Pairs
There are several currency cross pairs available for traders. Some of the most commonly traded forex cross pairs include:
- EUR/GBP(Euro/British Pound)
- EUR/JPY(Euro/Japanese Yen)
- GBP/JPY(British Pound/Japanese Yen)
- AUD/NZD(Australian Dollar/New Zealand Dollar)
- EUR/AUD(Euro/Australian Dollar)
- CAD/JPY(Canadian Dollar/Japanese Yen)
These pairs are actively traded and can offer profitable opportunities for forex traders.
Why Trade Forex Cross Pairs?
Many traders focus on major currency pairs because of their liquidity and tighter spreads. However, forex cross pairs also have unique advantages:
1. More Trading Opportunities
Major pairs are dominated by the US dollar, but cross pairs provide alternative ways to trade. If the US dollar is experiencing volatility, traders can focus on forex cross pairs to reduce risk.
2. Diversification
Investing in different currency pairs helps traders spread risk. If a trader only focuses on the US dollar, their portfolio may be affected by a single country’s economic events. Currency cross pairs allow for diversification across multiple economies.
3. Stronger Trends and Volatility
Some cross pairs, like EUR/JPY or GBP/JPY, have strong price movements. This makes them attractive for traders who prefer volatile markets and want to take advantage of significant price swings.
4. Avoiding USD-Based Influence
The US dollar is influenced by global events, interest rate decisions, and economic reports from the US. By trading currency cross pairs, traders can avoid USD-specific risks and focus on other market factors.
Best Cross Currency Pairs for Trading
The best cross-currency pairs depend on the trader’s strategy and risk tolerance. However, some pairs are more popular due to their liquidity and volatility. Here are some of the best cross currency pairs to trade:
- EUR/JPY: This pair is known for its volatility and strong trends, making it a favorite among traders who like quick price movements.
- GBP/JPY: Often called the “Dragon” due to its unpredictable price swings, this pair offers high volatility and profit potential.
- EUR/GBP: This pair is relatively stable compared to others, making it suitable for traders who prefer lower risk.
- AUD/NZD: A good pair for traders interested in the Australian and New Zealand economies, which have strong trade relations.
- EUR/AUD: Offers opportunities based on economic trends in Europe and Australia, often affected by commodity prices and interest rate changes.
Challenges of Trading Forex Cross Pairs
While forex cross pairs offer great opportunities, they also come with some challenges:
- Higher Spreads: Since these pairs are not as frequently traded as major pairs, the spreads can be higher, increasing the trading cost.
- Less Liquidity: Some forex cross pairs may have lower liquidity, which means fewer buyers and sellers at any given time. This can lead to larger price fluctuations.
- Greater Volatility: While volatility can be an advantage, it also increases risk. Traders need to be prepared for sudden price movements.
How to Trade Forex Cross Pairs Successfully
1. Analyse Market Trends
Before trading a forex cross pair, study market trends, economic data, and news related to the currencies involved. For example, trading EUR/JPY requires knowledge of both the European and Japanese economies.
2. Use Technical and Fundamental Analysis
Combining technical analysis (charts, indicators, price patterns) with fundamental analysis (economic reports, interest rate decisions) helps make informed trading decisions.
3. Manage Risk
Due to the volatility of forex cross pairs, it’s important to use risk management strategies. Set stop-loss and take-profit levels to protect your capital.
4. Monitor Spreads and Liquidity
Before entering a trade, check the spread of the forex cross pair. A higher spread means higher transaction costs, which can impact profitability.
Conclusion
Currency cross pairs provide traders with a wide range of opportunities beyond the traditional major pairs. While they come with risks such as higher spreads and volatility, they also allow traders to diversify their portfolios and take advantage of different market movements.
By understanding how forex cross pairs work and choosing the best cross-currency pairs for your strategy, you can expand your forex trading knowledge and improve your chances of success. Whether you are a beginner or an experienced trader, including cross-pairs in your trading strategy can open new doors in the forex market.