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The importance of the spread

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May 21, 2013 by Spainspo

In the world of forex trading, it’s uncommon for forex brokers to promote their trading instrument as a service that is free of charge. You’ll see banners that inform potential new clients that the website doesn’t take any commissions, how it’s free to open an account and how there is no hidden charges. This is all well and good, but do you really think any Forex broker could ever exist without somehow making profit? Of course not! It’s not a charity organization – it is a business just like anything else.

So how do the forex brokers make their money? The answer lies in the margin between the ask price and the bid price of a currency price, also known as the spread, of which you can read more about here!. Whenever you trade currency pairs, stocks, commodities or indices there is always two prices. One price is called the bid price, which is the price that you can sell a currency to the executing broker. The other price is the ask price, which is the price that you can buy a currency pair for. In order for the forex brokers to make money, the bid price is always lower than the ask price. The spread is measured in pips, which is the fourth decimal point in a currency pairs value. For example, the price quote of EUR/USD could be 1.2879/1.2883, which means that traders looking to buy the currency will have to pay 1.2883, and those looking to sell must do so at 1.2879. This means that if you buy the currency and then sell it again straight away, you will get a three point loss. You will have to wait for the market to move three points in your favor in order to get even, and as soon as it gets over 4 points you will have made a profit.

When first looking at spreads, you might think that the price difference is so small anyway that it couldn’t possibly make any difference, but you will soon find out that due to the high volume of trades you make in the forex market, that price difference can bite off quite a chunk of all your profits. Therefore it’s important that you try to luck for the tightest spreads possible when you choose your forex broker. A good way of finding brokers is to visit websites that specializes in reviewing different brokers, such as cambiodivisas.eu.


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