Forex Education | Trader's Language
In any business it is very important to understand and speak the same language. This way equilibrium can be reached and the communication vastly improved, while misunderstandings dissipate. The same applies to the Forex industry. A beginner should begin their forex learning process with what I term the ‘Trader’s Language’.
The industry has some specific terminologies essential for a trader of any level to understand beforehand. Moreover, understanding the specific terms, this industry will aid you in finding what fuels your interests. For example, you may be interested in locating the fees a brokerage house has for trading EURUSD. Rarely will you locate this under the fees or commissions, but under the name; spreads.
It may seem time consuming, however, neglecting to learn these particular terms could cost you your investment. Additionally, these terms are found all over trading platforms. Your inability to set the correct parameters of a trade due to a lack of knowledge could be problematic.
The Ticker, is also known as the Symbol, which the name of a currency pair. On most platforms, it can be found in the Market Watch section, as illustrated in figure 2.1, of the platform. In this section you can find a list of all the instruments that can be traded on a specific trading account.
Forex Tickers (Symbols) are comprised of six letters. Three for the first currency and another three for the second currency. E.g. EURUSD (EUR/USD) - EUR stands for Euro and USD for American dollars. The EUR is just Euro without the last letter.
A simple method to learn the rest of the currency symbols would be to split the first two letters that are the country codes, from the third, which usually is the first letter of the currency name. Let’s utilize as the first example the US/D (USD) - United States/Dollar;
GB/P - Great Britain/Pound;
JP/Y - Japanese/Yen;
AU/D - Australian/Dollar;
NZ/D - New Zealand/Dollar;
CA/D - Canadian/Dollar;
CH/F - Confederation Helvetica / Franc (language name of Switzerland);
HU/F - Hungarian/Forint.
There are some exceptions to this rule. Some of the countries have brought changes to their currency value. In these cases the first letter of the currency name is changed to ‘N’ which stands for new.
For example: PL/N - Poland/New Zloty, RO/N - Romania/New Leu). Another exception is Russian/Rubble that has the ticker RUB, the first three letters from the name of the currency.
Bid and Ask
Bid is the price at which the trader sells while Ask is the price at which the trader will buy. The Ask will always be higher or during very good liquidity moments may equal the Bid.
In the Market Watch section of the platform, as you can see in figure 2.2, these prices can be seen on the right side of the ticker.
Ticker Bid Ask
EURUSD 1.0945 1.0947
Usually charts are drawn using the bid line. Some trading platforms allow users to enable a line on the chart which shows the ask price. This way it is easier for the trader to visualize the distance between the two.
A notable feature to keep a look out for when a trader enters into a:
a) Buy position, means the trader buys at the ASK price and always exits the trade with an opposite order - sell. There is no consequence if the trader does this manually by simply closing the position *on other platforms traders will have to open a sell order*, or their automatic levels will be hit. If the traders buys in ask, to liquidate the position they will have to consider the bid price.
b) Sell position, means the trader sells at the BID price and always ends the trade with an opposite order - buy.
The same applies for this example. Manually or automatically the order will be closed at the ask line. Usually, because the charts are drawn with the bid price, new traders do not activate the ask level. Therefore, a new trader will see the bid line, and little pay attention to the ask line which triggers the automatic levels.
Banks, brokerage houses and exchange houses charge a fee to change one currency to another. The most common practice for these institutions is to make money from the difference between the Bid and Ask.
As I mentioned earlier, a person who wishes to change a currency to another or speculate the evolution of the price for a certain instrument needs to buy at the ask price and sell at the bid. The ask price will always be larger or, in the best scenario equal, to the bid price. Let me give you an example.
The EUR/USD has a bid price of 1.1100 and an ask price of 1.1102. In consequence, if you want to buy 1000 Euros, you will need to have $1110.2. And if I would like to sell at this point 1000 Euros, I will receive $1110. From these two transactions the third party will have an income of $0.2. This is a small fee to pay that will be received only if you speculate on the Forex Market through a brokerage house. At an exchange house you will find this fee 10 times higher, while at the banks it may be between 20 or 30 times higher than a brokerage house.
There is one additional point I would like to share with you about spreads. If you intend to open a trading account with a brokerage house, you will likely choose between three types of accounts. Normally the minimum deposit required for each account type will be different, but this not a rule.
In my coaching experience I have answered lots of questions regarding this issue. A vast majority of new traders is confused which account type might suit them best.
Fixed spreads - These accounts give an assurance that the spreads will remain fixed more than 90% of the time. In exceptional market conditions, with high volatility spreads will be increased accordingly. Usually these are larger spreads than average that might offered by selective brokerage houses. This type of account is suitable for beginners.
Floating Spreads - For this type of account a trader may have to deposit more. The spreads are lower than a fixed account and emulate the evolution of the spreads from the market. If the spreads increase in the inter-banking system, then it also increases on the trading platform. If the spread falls in the inter-bank liquidity, consequently it will also drop on the trading platform. But it will still not be identical with the ones in the real liquidity.
I would recommend this type of account to traders with intermediate experience and the know how to handle fluctuations in spreads.
ECN floating accounts - ECN is derived from Electronic Communications Network. An ECN broker consolidates price quotations from different providers and normally generates tighter spreads. By the virtue of the fact that the spreads are lower, some brokerage houses can perceive commissions on each trade.
I would recommend this account to more experienced traders who can handle higher fluctuations of spreads during any trading day.
The most common commissions found in the Brokerage houses are the spreads. The difference between the BID and ASK is the fee a trader pays for the ability to speculate on the Forex Market or trade Commodities and Indices. Depending on the instrument’s liquidity, the spread can be higher, or lower.
If a trader intends to trade stocks, then additional commissions will be taken when a trade is opened and closed. The fees can also differ from one type of account to another. If a trader chooses to trade on an ECN account, they will have a very small spread. As a result the brokerage houses take a commission for entering and exiting a trade. Spreads and commissions combined do not exceed the spread of a floating account.
A balance is the amount you currently possess in your trading account. When a trader makes an initial deposit, let’s assume of 1000 Euro, they can see in the trading platform, generally in the Terminal window under the Balance, 1000 Euro, or the equivalent if the trading account is in another currency. The balance will remain the same at the opening of a trade, but will change when the position (buy or sell) is closed. After closing the position the profit will be added to the balance or the loss will be deducted from the balance.
Equity is ordinarily seen in the Terminal window below the Balance. In the event of unopened trades, Equity will display 0 or an amount equal to Balance. When a trade is open the Equity will display in real time how your account is changing depending on the profit.
Equity is calculated as Balance plus profit. If you see under the ‘Profit’ section a positive value, then the Equity will be higher than the Balance. A negative value results in the Equity being smaller than the Balance.
This is another important element a trader should know, not only the definition but its use in a trading strategy. Volume is the amount of money a trader intends to use when entering a trade. It is imperative to open a trade with the correct amount. If the amount is too large and multiplied by the leverage, this may result in a loss that could wipe the account.
Let us examine the previous example. You have 1000 Euro to invest in your trading account. You then decide to enter a trade with a full balance of 1000 Euro, adding the 1:100 leverage given by the brokerage house, you will essentially be in the market with 100.000 Euro. The price of EURUSD is 1.1100, therefore you sell your Euros to buy US Dollars, with the assumption of making a gain. Instead the price increases to 1.1150. In this case you would incur a loss of 500 dollars. This amount is 50% of your entire balance.
In this scenario, even though the profit could be 50%, the loss could also be 50%. Unless you are equipped to take high risks, you should readjust your trading amount and pursue smaller investments such as 500 Euro, 200 Euro or even 100 Euro. With these volume levels the profits may be smaller as well as the losses in case of poor decision making.
In Forex industry has few brokerage houses offering the flexibility to trade specific amounts, such as 120 Euro or 1540 US Dollars or 3450 British Pounds. Forex traders use a definitive term considered to be a standard volume.
This standard volume is called LOT. One LOT has a nominal value of 100.000 units from the first currency of the pair.
1 Lot of EURUSD = 100.000 EURO
1 Lot of USDJPY = 100.000 USD, more examples follow.
When entering positions, most Forex traders prefer to select their volume using the following measuring unit. It is not mandatory to constantly trade 1 lot. A trader can choose from micro lots to tens of lots. The following scale should provide more clarity:
Micro Lot Mini Lot Lot
0.01Lots 0.1 Lots 1 Lot
1.000 10.000 100.000
2 Lots 5 Lots 10 Lots
200.000 500.000 1.000.000
10 Micro Lots = 1 Mini Lot
10 Mini Lots = 1 Lot
Nowadays brokerage houses offer traders the opportunity to open trades with values varying from one micro lot to 50 or 100 lots.
A pip is an acronym for Percentage in Points. But few use this definition. Usually traders refer to it as the smallest incrementing step for a price movement. In our earlier examples I presented the price for EURUSD with four digits.
A pip is the minimum step the price of a EURUSD currency pair can move and calculated to equivalent to 0.0001. If the price moves from 1.1100 to 1.1101 it means that it moved to 0.0001. Most currency pairs have four digits. For this particular currency pairs, 1 pip equals 0.0001, 10 pips equals a movement of 0.0010, 100 pips equals a movement of 0.0100 and so on.
In view of the liquidity (amount of money traded each day) of this market increased a lot in the past few years, while the spreads have diminished considerably. Therefore, a fifth digit can be seen on many trading platforms. The fifth digit is a tenth of the Pip's value and it is termed a Pipette. When measuring a move on a platform with 5 digits, you will see 10 pipettes for one pip, 100 pipettes for 10 pips and so on.
I have received a number of questions about this issue in my educational events, for this reason I outlined this definition for the benefit of your knowledge. Traders use pips as a substitute for real money, for two main reasons:
Firstly, to simplify the calculation of the distance between one price level to another. This also provides clarity when a forecast is made. If you assume that EURUSD will change from 1.1100 to 1.1125, you can expect a 25 pips move in favor of the Euro. As a consequence you may find yourself using five digits, which can often be an unpleasant experience.
The second is psychological. In the following chapters I will delve into a discussion of the relationship between the trader and money. Traders usually set the platform to display profit and loss in pips to remain as detached as possible from that trade. It is a method that can be useful for beginners.
A Pip has a value in money. It is very imperative when setting the amount we can allow the price to go against us (depending on how much money you willing to risk on a trade), or cut profits when it becomes obvious the price could reverse and go against us. The term pip is also used in other types of CFD trading like commodities, indices, ETFs or Stocks, but it is easiest to calculate for the Forex Market.
As discussed a pip is the equivalent of 0.0001 for the 4 digit currency pairs (or 0.00010 for 5 digit currencies). The value in money for one pip strictly depends on the trading volume. If you trade EURUSD and want to calculate the value of a pip, you can use the following formula:
Value of 1 pip = 0.0001 (minimum step) * 1 (volume traded, we take for example 1 lot) * 100.000 (the nominal value of one lot) = 10 $ (the currency is given by the second currency in the currency pair).
A shorter version is to remember that if you trade EURUSD the pip values are the following, depending on the volume:
For 0.01 lots: 1 pip = 0.1$;
For 0.02 lots: 1 pip = 0.2$;
For 0.1 lots: 1 pip = $1;
For 0.2 lots: 1 pip = $2;
For 1 lot: 1 pip = $10;
For 2 lots: 1 pip= $20, and so on.
As described, the currency for the pip value is given by the second currency of the pair. If one lot of EURUSD one pips is equivalent to 10 dollars, for 1 lot of EURGBP one pip is equivalent to 10 pounds, for 1 lot of USDCAD one pip is equivalent to 10 Canadian dollars and so on.
We have discussed the currency pairs which have 4 digits. However, there are some like the ones containing the Japanese yen (EURJPY, GBPJPY, USDJPY, AUDJPY, etc.) that has two digits only. For example USDJPY's quotation is 122.40. This means that 1 pip is equivalent to 0.01 movement. The formula remains the same, but the numbers will be a little different. 1 pip of 1 lot traded on USDJPY is equivalent to 1000 Japanese Yen. 1000 Japanese Yen divided by 122.4 is approximately of $8.17, so the actual value of one pip traded on USDJPY (or other currencies mentioned above) is lower than the value of one pip traded on EURUSD. For these currency pairs there are also pipets. When the price has three digits for the currency pairs which have the Japanese yen, you should note that the third is a tenth of a pip.
Leverage is also a noteworthy feature of CFDs and Forex Trading. Forex has become so popular thanks to leverage. In simpler words, leverage is the ability to trade larger amounts of money with a guarantee.
As a result of the opportunity to trade more money than is currently deposited in the account, the risks have increased. The balance multiplied by the leverage has introduced the prospect of making huge profits.
Let us assume you would like to speculate the evolution of the EURUSD price. However, your current balance is 1000 Euros, which is available for use. With this amount of money you could visit your nearest bank or exchange house to sell your Euros and receive US Dollars. You may sell 1000 Euros at a currency rate (bid) of 1.1100 because you gained insight that in the following days the dollar will appreciate against the European single currency. You now have $1110. After a few days you return to the exchange house to collect your 1000 Euros at 1.1000 (ask price), and only pay $1100. This gives you a profit of 10 dollars for this trade or approximately 10 Euros.
Now imagine having the opportunity to carry out the same trades with 10.000 Euros. Ten times the money to trade means that your profit would increase ten times. What if you had 100.000 Euros? The profit would be 100 times bigger for the same trade.
Taking the same transaction to a brokerage house would give you the prospect to use leverages from 1:1 (meaning that you trade only what you have), 1:50 (50 times the amount you have), 1:100 (most commonly, the opportunity to trade 100 times your amount) or even extend all the way to 1:1000 (1000 times the amount you have).
As I said, using leverage is risky. Big losses can occur if a trader does not use safety precautions. And so when this transpires a trader will lose all the money they invested. A trader wins from the trade, the profit will be added to his initial deposit.
For example, you have 1000 Euros that you invest into Forex trading. You open a trading account at a brokerage company offering a leverage of 1:100, and deposit into the account. The price of EURUSD is 1.1100 and you decide to sell your Euros because you assume he US Dollar will gain in the following days. On this occasion you use the leverage given by the brokerage house of 1:100. So with 1000 guarantee you trade 100.000.
The price drops to 1.1000 and you decide to get your euros back so you buy at this price. This time with the leverage applied you win 100 times more, 1000 dollars. Let’s assume the price drops only to 1.1050. In this case, you would have earned 500 dollars, which were added to your initial balance. Even supposing the price movement was two times smaller than in the other example, the profit is 50 times larger.
As you can see, leverage gives traders the opportunity to make more money on smaller price movements and smaller investments.
As I mentioned earlier, forex trading bears the risk of losing your investment. . For this reason when an individual is interested in trading with a brokerage house, they will be required to make a deposit.
In the scenario a trader loses, the amount lost during the trade will be deducted from the balance. This is fair and reasonable. A brokerage house gives a trader the ability to use leverage in order to make more money. On the other hand, a trader is liable to pay the brokerage house if they incur a loss and for the services the brokerage gives for the spreads and commissions.
Margin is the required amount of money needed to open a trade with a desired volume. If you return to the previous example, I used as a benchmark amount 1000 Euro. I gave this example because it is the amount needed, while using 1:100 leverage, to open a standard trading *Lot*. So for 1 lot of EURUSD, using a leverage of 1:100 a trader will need to have a minimum amount of 1000 Euro in their account.
This amount is being blocked under the Margin section from the Terminal window. I use the term *blocked*, for the reason that it is used for opening that specific trade (buy or sell). To initiate another trade you would need to deposit more money. When the trade is closed, the money is unlocked and can be used to open an additional trade.
Essentially, to calculate money remaining in your trading account to open a certain volume, you will need to divide the nominal value of a standard lot to the leverage. The Margin required will have, as for the nominal value of 1 lot, in the first currency of the pair.
Below are some examples to give you some clarity.
For 1 lot of EURUSD, using a leverage of 1:100 the margin will be 1%.
1 lot = 100,000 Euro;
Margin required = 100,000 / 100 = 1000 Euro;
0.1 lots = 10,000 Euro;
Margin required = 10,000 / 100 = 100 Euro;
0.01 lots = 1,000 Euro;
Margin required = 1,000 / 100 = 10 Euro.
For 1 lot of GBPUSD, using a leverage of 1:200, the margin will be 0.5%.
1 lot = 100,000 GBP;
Margin required = 100,000 / 200 = 500 GBP;
0.1 lots = 10,000 GBP;
Margin required = 10,000 / 200 = 50 GBP;
0.01 lots = 1,000 GBP;
Margin required = 1,000 / 200 = 5 GBP.
Ascertaining what margin you need to open 1 lot, will give you the knowledge of how many lots you can trade or a particular number of transactions you can enter. If your balance is 2,500 Euro, you can open 2.5 lots of EURUSD. Or 1 lot of EURUSD, 1 lot of EURJPY and 0.5 lots of EURAUD.
This is a positive indicator that shows you how much money you have unblocked and is used to enter other trades. If your account has 2,500 Euros and you open 1 lot of EURUSD, then the free margin will signal 1,500 Euro available to open other trades.
The Margin Level is an indicator that informs you can no longer open any additional trades. The Margin Level is the minimum between Balance and Equity, divided by Margin and multiplied by 100, to calculate a percentage. When this indicator drops below 100%, no more trades can be opened.
The Margin Call is strictly related to the Margin Level. Back in the days, everyone had to work through a broker to invest in the capital markets. When their margin level edged closer to 50% they received a call from their broker informing them their margin level is getting too low.
Nowadays a trader usually receives this type of calls from the sales department informing them to make another deposit to avoid a Stop Out. There is a feature within the trading platforms that cautions you when the margin level drops below 100%. On most platforms I have tested, the bar with Balance, Equity, Margin, Free Margin, Margin Level and Profit changes color when the Margin Level drops below 100%.
This is an impressive and useful feature of Forex trading. One of the most important characteristics a trader needs to possess is the ability to manage risk.
A professional trader will always know when to cut their losses so as to increase incomes on daily, monthly or quarterly basis. Knowing what risks to take on the current market conditions is a key to success. Warren Buffet once stated two very important trading rules: “Firstly, don't lose money and secondly, Remember the first one”.
In Forex and trading in general you cannot apply it as it is. I maintain that a very good rule is - Know how to control your loss! As I mentioned previously, everyone has lost or will lose money at some point in this industry. It is a fact that is commonly known.
Professional traders are always prepared to lose money. However, they will never lose more than they plan. Their strategy tells them how much they can afford to lose and at the end of the day, month, quarter or year they still remain profitable.
In the 1980s, stopping a loss was previously carried out over the phone. An investor would call their broker to sell their stocks if they were losing in value. This took a lot of time and investors usually ended up with losses larger than they expected.
Present day, there are more advanced trading platforms and high liquidity, giving traders the opportunity to cut their losses much faster and at the right moment. Today’s trading platforms have a component to set a level of Stop Loss.
Let’s say you enter a Buy trade with one lot on EURUSD at 1.1100. For this specific trade you are willing to risk only $100, if your analysis is wrong. In this case you can use the value of 1 pip, to ascertain how many pips the market has moved against you in order to exit with a loss of $100. If 1 pip is $10, considering to be trading 1 lot, means that the market should drop to 1.1090 to take you out with the loss. If you are aware of a need to employ a further Stop Loss, then you can adjust your volume. Supposing that you need 20 pips to ensure your Stop Loss level is safe, then you can set your trading volume at 0.5 lots. A pip value will be $5, so the market will have to drop at 1.1080 to take you out. Most platforms will ask you to set the Stop Loss level in pips or set the price. But there are exceptions that will give you the flexibility to set the amount you are willing to risk as well as the volume.
After setting these parameters it will automatically calculate your price level at which you should set the Stop Loss. Stop Loss levels are automatic. As a result, once set up the trade will be automatically closed when the market hits that level.
Remember, if you enter a BUY (buy in ask) the Stop Loss will be triggered when the BID hits that level. If you enter a SELL (sell in BID) the Stop Loss will be triggered when the ASK price also hits that level.
Setting a Stop Loss from the beginning of a trade is very helpful for beginners. This way you can avoid being caught on the wrong footing. Sometimes the market rallies in the opposite direction than our current trade position and it makes it difficult for traders cut their losses at their desired level. Especially if the trader is inexperienced.
This is why I have impressed upon the point; you should never enter a trade without a Stop Loss level. This feature is also very helpful if you need to move away from your trading terminal. It acts as a safety net when the market goes in the opposite direction to your trade and it will also save your account.
Have you found yourself in a situation where you began eating your favorite meal and unable to stop?
I certainly have a majority of the time what followed was not always very pleasant. In those moments I thought of how good it would have been if I had stopped at a certain moment. This is a similar example to price movements. After a rally the market is exhausted, just like me after eating too much, and takes a break or retrace.
Another good comparison that I use in my webinars is that the market rallies are similar to the human body’s limits. I usually give as an example, jogging. I can jog for 5 to 7 km without stopping. If I push myself, I may be able to run 10km, but with my training I will may not be able to accomplish that distance. The same happens with the market. In certain context, it has limited movement and after that it needs to take a break by retracing.
This is a very important thing to understand. As a result, that the market will not follow the same direction infinitely. At some point the market will change direction. This is worth remembering; a trader should cash in profits make on a trade.
Take Profit serves as a guardian angel that indicates that you have eaten enough or that your body has ran its limit, and you should never ignore these signs. Traders enter a buy or sell trade after making an analysis of the instrument they intend to trade.
In conclusion of this analysis they set their trade with a Stop Loss level and a Take Profit level. The take profit level is an automated order that will cash in the profit made on the trade at the pointed price.
Let’s consider that you want to enter a BUY, 1 lot of EURUSD at the price of 1.1120. You gather from your analysis results that inform you the market most probably will rally between 30 to 40 pips. So proceed by setting a Take Profit level at a 35 pips distance of your current price.
As a result you set the Take profit at 1.1120 plus 0.0035 which will equal 1.1155. If the price hits this level you will end up with the profit you were expecting of $350 (1 pip per one lot traded on EURUSD is $10).
Take Profit levels are automatic. Therefore, once you have set your Take Profit levels, the trade will be automatically closed when the market reaches that presupposed level. Remember, if you enter a BUY (buy in ask) the Take Profit will be triggered when the BID price reaches that level. If you enter a SELL (sell in BID) the Take Profit will be triggered when the ASK price also reaches the level.
One of the best aspects of Forex trading is the gradual improvement of trading technology and platforms. They have evolved so fast and developers add new and useful tools to make the trading experience more pleasurable. One of the key features things they have included is ‘Pending Orders’.
These are orders you can set at a certain moment in time, but not necessarily at market price. A pending order is set at the current moment, when a trader expects the market to reach a different level. However, the actual trade will only be triggered when the market reaches that price. These types of orders are very useful when you are away from your computer. At the same time you do not wish to lose a good trade, if the market changes unexpectedly.
Pending orders can also be set with an expiration date and time. If the market unexpectedly changed within a specified period of time, then the order or orders will be canceled. There are no limits to how many pending orders you can set.
On the other hand, if they are triggered the margin is blocked according to the margin conditions. If let’s say, you have set four pending orders and three were triggered, but your free margin now is less than what you need to trigger the fourth, then it will not be triggered when the price reaches that level. There are four types of pending orders that you can set.
They depend on the position of the price at which you wish to place the pending in comparison, to the current price and direction of the trade; buy or sell. It is important that you are aware of these features for the reason that they will serve you well in your daily trading and strategy. Therefore, I will endeavor to describe them to you next in the following pages.
Buy Limit - First in line is the Buy Limit. As the name states this is a buy order. To set this limit you will need to select a lower price than the current one. I liken this as being similar to a floor. Imagine the price being a ball which you throw to the ground and bounces back in your hand.
The same principle is applied in real trading. Let’s assume you glance over the EURUSD's chart and the price now is at 1.1100. You consider this current level to be too high and believe the price may drop lower, maybe towards 1.1050, before rallying again to 1.1200. In this case you would rather buy at the floor, so you set a BUY LIMIT at 1.1050.
Supposing the price drops lower, as you predicted and reaches 1.1050, it will trigger the BUY order. As a result you receive a larger profit.
Sell Limit - Secondly, the Sell Limit. In this case the order will be a SELL that is triggered and the price should be higher than the current price. I usually compare this to a ceiling. As you know anchoring images to words and ideas will help us remember better. If you consider the price to be the same ball and this time you throw it up, it will not rise higher than the ceiling (limit) but due to gravity it will bounce back to you.
Let us take again as an example EURUSD at the same price of 1.1100. However, this time you expect a rise in the price up to 1.1150 which should be followed by a drop to 1.1000. In this case your strategy states that it would be better for you to wait until the EURUSD reaches a higher price and after that sell (trading CFDs you can sell, although you do not own the instrument, this is only for speculative purposes). You can set a SELL LIMIT at 1.1150. The trade will activate when the BID price reaches the level set for the pending order.
Buy Stop - Third in line is the BUY STOP. This is a buy order and the price this time is higher than the current price. When I first learnt about this particular type of pending, my mentor taught me to consider them as bus stops.
A STOP order is like a bus station. Imagine the price being a bus and the STOP level a bus station and the trade a passenger. The bus arrives from a direction, it stops at the bus station, the passenger boards the bus and the bus continues its journey.
Let us take the same price for EURUSD 1.1100. What differs from the previous time, is you lack confidence that the up movement will continue. From your analysis, there will be a higher probability for the currency pair to reach 1.1200 if the price breaks first above 1.1150. If there is a trigger for another rally you can set a BUY STOP order at 1.1150. If the ASK price will reach this level, the BUY order will be triggered.
Sell Stop - Last, but not least, is the SELL STOP order. We can use the same example of the bus for this type of order. So as to not bore you with the same story I will jump to a more practical example. As you may already know for this example I will use again EURUSD. The currency pair has a price of 1.1100.
You speculate the price may drop lower, but the probability increases if it breaks below 1.1050. Supposing this occurs, there is a good chance for it to go all the way to 1.0000, giving you 150 pips profit.