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Spread in Forex Explained Definition & Examples

what is spread in forex

For a simple analogy, consider that when you purchase a brand-new car, you pay the market price for it. The minute you drive it off the lot, the car depreciates, and if you wanted to turn around and sell it right back to the dealer, you would have to take less money for it. A spread is often determined by the currency being traded, how volatile it is, the liquidity and market factors.

what is spread in forex

This information has been prepared by IG, a trading name of IG Markets Limited. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. No representation or warranty is given as to the accuracy or completeness of this information. Consequently any person acting on it does so entirely at their own risk.

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Remember, every forex trade involves buying one currency pair and selling another. The currency on the left is called the base currency, and the one on the right is called the quote currency. When trading FX, the bid price is the cost of buying the base currency, while the ask price is the cost of selling it. There will also be a lower spread for currency pairs traded in high volumes, such as the major pairs containing the USD. These pairs have higher liquidity but can still be at risk of widening spreads if there is economic volatility. High spreads suggest that a pairing is less liquid than other pairs.

  1. The 50 pip spread between the bid and ask price for EUR/USD (in our example) is fairly wide and atypical.
  2. Consequently any person acting on it does so entirely at their own risk.
  3. The question of which is a better option between fixed and variable spreads depends on the need of the trader.
  4. The size of the spread can be influenced by different factors, such as which currency pair you are trading and how volatile it is, the size of your trade and which provider you are using.

To figure out the total cost, you would multiply the cost per pip by the number of lots you’re trading. Typically, spreads widen during economic data releases as well as other periods when the liquidity in the market decreases (like during holidays and when the zombie apocalypse begins). Currency pairs involving the Japanese yen are quoted to only 2 decimal places (unless there are fractional pips, then it’s 3 decimals).

Understanding Forex Spreads: What They Are and How They Work

It is also sometimes beneficial to hold onto a trade during times of spread-widening until the spread has narrowed. A low spread means there is a small difference between the bid and the ask price. It is preferable to trade when spreads are low like during the major forex sessions.

These prices will change over time based on factors that affect currency prices. This will prevent you from being overcharged by a broker, even if they are offering commission free trades, and provide some guidance against risky investment decisions. Despite it being a smart way for brokers to make money from transactions, a higher spread can also reflect how risky your investment is. If you’re new to forex, we recommend downloading our free beginners forex trading guide which provides expert tips and insights on the market and ways to trade.

what is spread in forex

A higher than normal spread generally indicates one of two things, high volatility in the market or low liquidity due to out-of-hours trading. Before news events, or during big shock (Brexit, US Elections), spreads can widen greatly. European trading, for example, opens in the wee hours of the morning for U.S. traders while Asia opens late at night for U.S. and European investors. If a euro trade is booked during the Asia trading session, the forex spread will likely be much wider (and more costly) than if the trade had been booked during the European session. Spreads can be narrower or wider, depending on the currency involved. The 50 pip spread between the bid and ask price for EUR/USD (in our example) is fairly wide and atypical.

We also offer an MT4 VPS, which offers low latency and reliable uptime – meaning you’re sure to get fast execution. Our MT4 VPS is hosted by Beeks in London, and it’s the fastest, most reliable VPS on the market. It is important to find a broker that offers the most competitive spreads. If the spreads being offered are unreasonably or unusually high, then pick one that offers something better. Below is an example of how a broker’s quote for EUR/USD might look with the bid-ask spread built into it.

Plan your trading

It is not only the spread that will determine the total cost of your trade, but also the lot size. A forex spread strategy can also be strengthened by the use of a trading indicator​​. The forex spread indicator is typically displayed as a curve on a graph to show the direction of the spread as it relates to bid and ask price. This helps visualise the spread in the forex pair over time, with the most liquid pairs having tighter spreads and the more exotic pairs having wider spreads. Keeping an eye on our FX economic calendar can help prepare you for the possibility of wider spreads.

This enables you to get exposure to large amounts of currency without having to pay the full value of their trade upfront. You can go long or short, which means you can speculate on rising as well as falling currency prices. And, you only need a small deposit – called margin – to open your position. Trading foreign exchange on margin carries a high level of risk, and may not be suitable for all investors. Before deciding to trade foreign exchange you should carefully consider your investment objectives, level of experience, and risk appetite. You could sustain a loss of some or all of your initial investment and should not invest money that you cannot afford to lose.

Therefore, any accounts claiming to represent IG International on Line are unauthorized and should be considered as fake. Please ensure you understand how this product works and https://www.dowjonesrisk.com/ whether you can afford to take the high risk of losing money. Investing in the forex markets involves trading one currency in exchange for another at a preset exchange rate.

Forex trading costs

A low spread generally indicates that volatility is low and liquidity is high. Now that we know how currencies are quoted in the marketplace let’s look at how we can calculate their spread. Forex quotes are always provided with bid and ask prices, similar to what you see in the equity markets.

And spreads will widen or tighten based on the supply and demand of currencies and the overall market volatility. Trading with fixed spreads also makes calculating transaction costs more predictable. The spread is usually measured in pips, which is the smallest unit of the price movement of a currency pair. As a result of accepting the risk and facilitating the trade, the market maker retains a part of every trade.

Learn how shares work – and discover the wide range of markets you can spread bet on – with IG Academy’s free ’introducing the financial markets’ course. The margin can be as low as 2% of the value of the trade, which means you can make your capital go further while still getting exposure to the full value of the trade. Stay on top of upcoming market-moving events with our customisable economic calendar.

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