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What is Spread in Forex?

TABLE OF CONTENTS

What is Spread in Forex?

What is Spread in Forex?

Vantage Updated Updated Fri, 2024 May 10 06:39

In forex trading, the spread refers to the difference between the bid (sell) and ask (buy) prices quoted for a currency pair, serving as a transaction cost built into every trade. This bid/ask spread fluctuates in increments called pips, which denote changes in the fourth decimal place of a currency pair, or the second decimal place for the currency pair. 

The total cost of your trade is influenced by both the spread and the lot size. Forex brokers present two prices for a currency pair: the bid price for selling the base currency and the ask price for buying it. 

Key Points

  • The spread is the cost difference between the bid and ask prices of a currency pair, expressed in pips.
  • Fixed spreads offer stability and predictability in costs, while variable spreads adjust with market conditions, providing cost efficiency but less predictability.
  • Platforms like MetaTrader 4 and MetaTrader 5 offer tools for effective trading, with differences in features and spread costs impacting trader experience and expenses.

Types of Spreads in Forex

In forex trading, spreads are categorised into two main types: variable and fixed. Each type offers distinct advantages and disadvantages, crucial for traders to understand when navigating the currency markets. 

Here’s a breakdown of both spread types:

Spread TypeAdvantagesDisadvantages
Fixed SpreadPredictable trading costs, beneficial for advanced budgeting and strategy planning.Ideal for automated trading systems as the spread remains the same.Less risky during volatile market conditions as the spread does not widen.Typically higher than variable spreads under normal market conditions. Fixed spreads offer limited flexibility, as they remain constant even when market conditions could allow for a narrower spread.
Variable SpreadLower average costs compared to fixed spreads during less volatile periods.More transparent as it reflects real market conditions and liquidity.Spreads can widen significantly during major economic announcements or market volatility, increasing trading costs.Less predictable, making budgeting and planning more challenging.

Calculating Forex Spreads

Before diving into how to calculate forex spread, it’s important to understand the different forex terms:

  • Bid Price

The price at which buyers are willing to purchase a currency pair in the forex market.

  • Ask Price

The price at which sellers are willing to sell a currency pair in the forex market.

  • Tight Spread / Low Spread

A small difference between the bid and ask prices, indicating low trading costs and high liquidity.

  • Wide Spread / High Spread

A large difference between the bid and ask prices, signifying higher trading costs and lower liquidity.

  • Pip

A “pip” represents the smallest price movement in a forex currency pair and stands for “percentage in point.” 

Typically, forex currency pairs are quoted to four decimal places, with a pip referring to a change in the fourth decimal place. This can be represented by the bolded numbers in the below table.

EUR (Base Currency)/USD (Quote Currency)
Bid PriceAsk Price
1.06301.0635
Table 1: EUR/USD currency bid ask price

To calculate the spread, which is the difference between the buy and sell prices expressed in pips, we can use the following formula:

Spread = Ask price – Bid price = 1.0635 – 1.0630 = 0.0005 (5 pips)

Forex Trading Platforms

There are a wide variety of forex trading platforms for traders to choose from including popular platforms such as MetaTrader 4 and MetaTrader 5. 

MetaTrader 4

MetaTrader 4 (MT4), created by MetaQuotes in 2005, is a popular trading platform that can be installed on both desktop and mobile devices. It offers a flexible trading system with advanced market analysis tools, customisable charts, and the ability to use Expert Advisors (EAs) for algorithmic automation, enhancing the precision and efficiency of trading strategies. 

The platform’s user-friendly interface ensures that even novice traders can easily understand and utilise its comprehensive functionalities. Learn more about the platform here.

MetaTrader 5

MetaTrader 5 (MT5) is the advanced successor to MetaTrader 4, developed by MetaQuotes for trading forex, futures, and other assets. This multi-asset platform is renowned for its sophisticated features, including the latest enhancements like fully activated Expert Advisors (EA), signals trading, and comprehensive hedging capabilities. 

Learn more about the MT5 platform or read our article covering the differences between MT4 and MT5 to help traders understand better.

Vantage 

Traders can also choose to trade CFDs products such as Forex using the Vantage trading platform which offer clients ultra-competitive spreads starting at 0.0 pip for RAW ECN accounts, and 1.0 pip for Standard STP accounts

Start trading with Vantage today by opening a live trading account!

Summary

In summary, the spread is used to represent the transaction cost and is defined as the difference between the bid (sell) and ask (buy) prices of a currency pair. Each spreads type comes with its own advantages and disadvantages and it’s important for traders to understand them.

Trading platforms like MT 4 and MT 5 provide robust tools for analysis and trading, featuring customisable charts and algorithmic trading capabilities through EAs.

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