Understanding the Meaning of Forex Spread
The Forex spread is a basic, but important, concept when it comes to trading. It should be a very familiar term to you if you trade on the Forex market regularly. If it is not, it is something that you must understand in order to become a successful trader. In this article, we will explain what a spread is, why it is important, how to measure it and much more!
Table of Contents
Forex Spread | Introduction
In the Forex and other financial markets, the spread is the difference between the purchase price and the sale price of an asset.
With online brokers, the purchase price is always higher than the sale price of an asset, meaning that if you opened a position and closed it straight away, you would make a loss exactly equal to the spread.
Therefore, when you open a trade, you need the market to move in your favour in an amount equivalent to the spread before you can start to potentially make profit.
For online brokers, the Forex spread is one of their main sources of income, along with commissions and swap fees. The spread can be fixed or variable, although most online brokers offer variable spreads.
Forex Spread | How is it Measured?
In the FX market, a pip is the fourth digit after the decimal point in an exchange rate, and it is in pips that the Forex spread is measured.
For example, if GBP/USD is currently trading at 1.29300/1.29310, we see that the difference between these figures is 0.0001. Therefore, we can say that the spread is one pip.
The spread varies for each broker and also depends on volatility and volumes traded on an instrument. The EUR/USD is the most traded currency pair and usually enjoys the lowest spreads.
Admirals is a Forex broker that also gives you access to other financial markets. All our spreads can be found in the Contract Specification section of our website.
Here are some of our typically lowest spreads:
- EURUSD: 0.8 pips
- FTSE100: 0.8 pips
- DAX40: 1 pip
- SP500: 0.4 pips
- NQ100: 0.8 pips
- GOLD: 20 pips
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How to Calculate the Value of the Spread in Forex
As we have seen above, the Forex spread is measured in pips, but how can we translate this into a recognisable currency?
The cash value of the spread will depend on the size of the contract you are trading, as this determines the size of each pip.
In Forex, to calculate the pip value in the quote currency (the second listed currency in a pair) you multiply 0.0001 by the size of the contract.
For example, trading 1 lot of GBP/USD (100,000 units of GBP) would give a pip value of 10 USD (100,000 x 0.0001 in the second listed currency). Perhaps an easier way to look at this is that, for all currency pairs (except those which use the Japanese Yen), a contract size of 1 lot will give a pip value of 10 units of the quote currency.
For currency pairs quoted in the Japanese Yen, a pip is the second digit after the decimal point, meaning that the above calculation would use 0.01 instead of 0.0001.
Therefore, if we continue our example from the previous section, where we calculated that the spread equated to 1 pip, we can say that the cost of the spread for a trade size of 1 lot would have been 10 USD.
Forex Spread | Influential Factors
The spread is influenced by the following factors:
- The liquidity of the asset being traded
- Market conditions
- The volume traded of a financial instrument
Spreads depend on the underlying asset which is being traded. The more an asset is traded, the more liquid its market is. The more liquid the market, the smaller, or "tighter", the spreads. In markets with low liquidity, or "thin" markets, such as the natural gas market, the spreads tend to be larger.
Spreads also vary according to market conditions. There are usually larger spreads during macroeconomic announcements and periods of high volatility.
If you are planning to trade at the same time the Federal Reserve is about to make an announcement, or the European Central Bank has a meeting scheduled, expect higher spreads.
We noted earlier that some brokers offer fixed spreads, however, it is important to note that during macroeconomic announcements and periods of high volatility, these brokers may not be able to guarantee their spreads remain fixed.
Finally, volume could have an impact on the spread. If your trade is so large that it moves the market against you, then the market maker is likely to adjust their spread to compensate for the additional risk they are taking. In practice, the FX markets are so liquid that retail trades are very unlikely to make an impact to the market price.
Is it possible to trade without Forex spreads?
At Admirals, our Zero.MT5 account offers spreads starting from zero! Commission is charged at up to $6 per contract: $3 to open the position and $3 to close.
We have already noted that spreads vary from broker to broker. However, you should be careful with advertisements promising accounts with low, or no, spreads and no brokerage fees. There are trading scams which promise such accounts in order to get you to deposit money with them, money that you may have a difficult time getting back.
Brokerage fees are a broker's source of remuneration and this money can be used for future development and improvement of their trading services and platform. So it is not always the best idea to look for the cheapest solution, but rather to look for the broker with the best price to quality ratio.
Looking to practice your trading under real and live market conditions, but with virtual currency? Register now for a free demo account and hone your skills before putting them to the test on the live markets! Click the banner below to register today:
How to View the Spread in MetaTrader 5
Once downloaded, open your MetaTrader 5 trading platform and head to the "Market Watch" section on the left hand side of your screen. If it is not there already, press Control + M on your keyboard to make it appear.
Right click in the Market Watch window, scroll down to "Columns" and from here select "Spread". A new column will appear on the right in the window which displays the difference in value between the Bid and the Ask quotes for each trading instrument.
Alternatively, if you want a visual representation of the current spread, open a price chart, right click and select "Properties". In the resulting dialogue box, select the "Show" tab and then select "Show Bid Price" and "Show Ask Price".
Once accepted, this will display two lines demonstrating each current price, the gap between them being the Forex spread. Below, the Ask Price line is red and the Bid Price line is green.
Viewing the Spread with MetaTrader Supreme Edition
MetaTrader Supreme Edition (MTSE) is an add-on for both MetaTrader 4 and MetaTrader 5 developed by professionals exclusively for Admirals.
With the MTSE add-on, there are additional, and better, ways in which to view the spread for the instrument you are trading:
- The Admiral Mini Terminal Expert Advisor
- The Admiral Spread Recorder Indicator
The Admiral Mini Terminal
As well as being a useful tool for quickly creating market positions, the Admiral Mini Terminal also allows you to easily see the current spread for the price chart you are viewing.
The Mini Terminal can be found in the "Navigator" window, under "Expert Advisors", as shown below.
Once located, click on the Admiral Mini Terminal and then drag it onto your open price chart and click "OK" on the subsequent dialogue box.
Between the "Sell" and "Buy" prices, the real time pip value of the Forex spread is displayed in white.
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The Admiral Spread Recorder Indicator
The Admirals MTSE add-on comes with a whole variety of extra technical indicators which are not included as part of the standard MetaTrader 5 platform. One such indicator is the Admiral Spread Recorder.
The Admiral Spread Recorder is an indicator which, once applied to a price chart, shows the current spread, but also records the following information about the spread for each time period:
As well as being aware of the current spread - where the spread is variable, it can be both interesting and helpful for a trader to have a picture of whether the spread deviates greatly in periods of market volatility.
Whilst open, this indicator continuously records the values of the spread, allowing the trader to go back through the price chart and analyse the information.
Just as with the Admiral Mini Terminal, in order to add the Spread Recorder Indicator to your chart, head to the "Navigator" window, only this time select "Indicators". Then locate the "Admiral Spread Recorder" and click and drag onto your open price chart.
As shown below, the indicator appears underneath the main price chart. By default, the maximum and minimum spread for each time period is indicated by the green line, whereas the average is shown by the yellow circle. The current spread is shown on the right hand side of the indicator and highlighted in blue.
Importance of Spread when Trading
Anyone who wants to become a Forex trader has to decide which style of trading works best for them. Do you prefer to scalp the markets, holding positions for just minutes or even seconds? Or perhaps trading with a longer timeframe?
Each trader will have a different degree of sensitivity to the cost of the spread depending on the trading style and strategy which they adopt.
For day traders, such as scalpers, the spread is a very important factor to consider when trading. Because these types of traders are required to enter the market on numerous occasions throughout the day, if the spread is too high it can severely impact their potential profits.
The longer the term which you trade, the less impact the spread will have on your profits. For example, for a swing trader, who is looking to accumulate a larger profit over days, weeks or even months, the spread will have little impact on them when compared to the size of the market movements which they are hoping for.
Traders who enter and exit the market regularly can see spread costs add up. If this sounds like your trading style, you need to ensure you are placing your orders at times when the spread size is optimal.
When trading with technical indicators, it is usually a good idea to use additional indicators to confirm the signals supplied by your main indicator. For traders who enter the market frequently, a spread indicator can be used as a "final filter" before entering the market, to ensure that you are not entering at a bad time for spreads.
Other articles that may interest you:
- Investing in Precious Metals: A complete guide
- Market liquidity - What are liquid markets?
- Forex Trading for Beginners
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