27.How to interpret the contract size in FX trading?
Forex trading becomes popular
Investment has become more common with the development of global technology and increasingly advanced internet systems. Forex trading, as a way of investment, has various advantages which have attracted investors of different categories. It has become even more popular since the rollout of online trading platforms. The years after 2000 were the era of the rapid growth of retail forex brokers. As a result, the threshold for investment has gradually been lowered over the years, and it is now easier for small investors to participate in the forex market, the largest financial market in the world.
What is Standard lot, Mini lot, and Micro lot?
A Lot is the measurement unit for the size in forex trading contracts. In forex trading, the often-heard terms are a standard lot (100,000 units), mini lot (10,000 units), and micro lot (1,000 units). In earlier years, the standard lot used to be the smallest lot size for investors to take part in forex trading. In later years, the brokers offered smaller trading contracts with lower deposit requirement, lowering the entry barrier for investors. Some brokers even offer a nano lot (100 units) for newer traders.
With the constant stream of new small investors, forex trading has seen increased popular demand starting in the period of 2008 to 2009. Since that time, trading in mini and micro lot’s have become commonplace in the retail forex market.
When it comes to talking about 1 lot of a contract, the lot size refers to the standard lot. Generally speaking, the “volume” (trading lot size) of “1” set on the brokers’ platform is set to 1 standard lot as default. Therefore, 0.1 lot is equivalent to 1 mini lot, and 0.01 lot is equivalent to 1 micro lot. For the other trading products, it is also adjusted with the ratio of 1/10. But, we should pay attention that different trading products are measured by different units, having different contracts. For example, a standard lot of gold refers to 100 ounces, while a standard lot of crude oil refers to 1,000 barrels.
Let’s take forex trading as an example. A standard lot of EUR/USD refers to a 100,000 EUR contract, and a mini lot of GBP/USD refers to a 10,000 GBP contract.
It is noteworthy that different brokers may define and name their contract sizes differently. Some brokers may set 10,000 units as 1 standard lot for forex products on their platforms, which might confuse some investors. When it comes to specific stocks and index products in CFD, it is common to see that contract sizes are varied. It is therefore advisable for investors to consult the brokers first to know more about the specifications before trading.
Points to note of contract sizes
The forex contracts of the standard lot come with a size of 100,000 units. However, it is different when it comes to profit and loss calculation. Say, an investor long’s 1 standard lot of EUR/USD and 1 standard lot of AUD/USD respectively, providing that both prices increase 1% afterwards.
Assume investor opens the position of EUR/USD at 1.19 and sells at 1.2019 (1.19*101%). The P&L is: (1.2019-1.1900)* 100,000 = 1,190 USD
Assume investor opens the position of AUD/USD at 0.7 and sells at 0.707 (0.7*101%). The P&L is: (0.707-0.7)* 100,000= 700 USD
The difference of P&L is caused by different based currency holding, 100,000 EUR contract and 100,000 AUD contract. The total contract value in EUR/USD is bigger, therefore, the P&L is different for the above case if we assume the same percentage of the move.
On the other hand, when EUR or AUD appreciates, the total contract value of the related floating position also changes (in terms of USD). If a broker sets a margin requirement with a fixed leverage ratio, that means investors need to maintain more margin in the trading account. Furthermore, if we trade with different contract sizes, of course, the pip value will be varied as well.
The difference of FX futures specifications
Contracts of FX futures are different from the Spot forex trading mentioned above. According to the specifications of Chicago Mercantile Exchange (CME), 1 standard lot of GBP contract refers to 62,500 GBP, while 1 standard lot of JPY contract refers to 12,500,000 JPY, 1 standard lot of EUR refers to 125,000 EUR, and 1 standard lot of CAD refers to 100,000 CAD.
Obviously, the calculation of the P&L for each pip is needed to be adjusted as the contract size and base currency of those products are varied from the spot trading.
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Risk Warning: The above content is for reference only and does not represent ZFX’s position. ZFX does not assume any form of loss caused by any trading operations conducted in accordance with this article. Please be firm in your thinking and do the corresponding risk control.