A long position is when we buy first and then sell. A short position is when we sell first and then we buy. This makes it possible for us to earn money when the price goes up and also when the price goes down.
Types of Positions
The forex market has come a long way since its inception in the ‘90s. The wild price swings that the prices of currency pairs experience have attracted a lot of market participants towards the currency market.
The price of a currency pair does not always move in one direction only, price will always move either upwards or downwards.
The strength of the movement will differ from time to time according to the market conditions i.e. price can see a trending move or be stuck in a range.
It would be unfair if traders were just allowed to capitalize on an upward movement of the price of currency pairs i.e. if they were only allowed to buy first and then sell the currency pair, barring them from capitalizing on a declining move.
Hence forex traders can enter into 2 types of positions in the forex market, a long position and a short position.
1. Long position
When a trader enters into a long position, he places an order on the forex market to buy the currency pair.
In this case, the trader’s profit and loss statement will change in the positive only if the price of that currency pairs increases, while in a decline in price the trader’s profit and loss statement will be in the negative.
After buying the currency pair first, the trader will have then have to sell the currency pair in order to square off the position, hence placing a sell order on the forex market.
2. Short position
In a short position, the trader will first place an order to sell the currency pair.
The trader will profit if the price of the currency pair declines and will incur a loss if the price of the currency pair increases.
In order to square off the position, the trader will have to then buy the currency pair, hence placing a buy order on the forex market.
How does it work?
We know that when traders place an order on the forex market, it then goes on to an order execution system where the order is matched with the opposite order placed on the forex market.
This means that when the trader places a buy order for a currency pair, it is then matched with a sell order that has been placed by another participant on that currency pair at that quote price.
The same is the case with a sell order, it is matched with a buy order placed on the forex market placed by another participant.
In case of a long position, the trader does not own any currency pair yet, hence places a buy order on the forex market through the broker.
This is matched with the order placed by a seller on the forex market. And when the trader wants to square off the position, he will place a sell order and this will be matched by a buyer on the forex market.
Short positions work a little differently. When a trader intends to enter into a short position he places a sell order on the forex market through the broker, the trader does not own any currency pair.
Since one cannot sell something first, that he doesn’t own yet this process of short positions works differently.
When a trader enters into a short position and places a sell order with the broker, the broker would borrow the currency pairs that other clients already own and loan them to the trader which he sells on the forex market.
When the trader squares off his position by buying back the currency pair, this is then returned back to the other client.
This process happens in the backend at the broker’s terminals quite swiftly with no delays.
This happens because there are a huge number of participants in the market at any particular moment that own the currency pair.
There is no change in positions of the client from whom it is borrowed, this process is done just to maintain the books of the trade.
Did you know about shorting the market?
I believe that you now know the types of positions you can have in the forex market and are now ready to take the next step in their trading journey.
Share this blog post with other traders and let them also know about going long and going short.
Feel free to reach out to me for any questions or queries in the comments section and I will get back to it at the earliest.