The Forex spread is an important part of trading the currency market. Depending on what type of trading strategy you use, it could have a profound effect on you as a trader. Here are the basics of what the spread is and what role it plays in Forex trading.
What is the Forex Spread?
When you trade in the Forex market, you deal with Forex currency pairs. This means that you are always buying one currency and selling another. Because of this, Forex brokers provide quotes with a bid and an ask price. The bid price comes first in the quote and the ask price comes second. The spread is the difference between the bid price in the quote and the ask price in the quote.
In Forex, the spread is kept by the broker when you make a trade. With most brokers, this is the only way that they are compensated.
For example, let's say that you look at your trading platform and see that the EUR/USD is being quoted at 1.3454/1.3456. To calculate the spread, you would take the larger number of 1.3456 and subtract 1.3454 from it. This gives you a difference of .0002. This means that the spread is 2 pips for this particular pair.
The spread can have a large impact on your trading depending on what type of system you use. For example, if you are using a scalping trading strategy, you may only be going for 5 or 6 pips per trade. When you engage in this type of trading, you have to find a pair that has very low spreads. If you are trading a pair that has a spread of 3 and you are only bringing in 5 pips, this means that you are only netting a profit of 2 pips per trade. Is it really worth taking the risk of the trade and wasting your time for only two pips per trade? In most cases, it probably isn't.
On the other hand, let's say that you are taking a more long-term approach to trading. You follow a trend trading strategy and you may stay in a trade for days or weeks at a time. When you close a winning trade, you might get 500 pips or more. At this point, are you really going to worry about the spread even if its 10 or 20 pips? Probably not.
You have to look at the impact of the spread in relation to your trading strategy. If it's not a big deal for you and your strategy, don't sweat it. If you are trading on the 1 minute time frame and every pip counts, then the spread is pretty vital to you. In that case, you'll need to look for Forex brokers that offer very low spreads.
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