Spread forex trading is a type of forex trading that involves betting on the price movements of currency pairs. Unlike other types of forex trading, spread forex does not involve buying or selling the actual currencies, but rather speculating on the difference between the bid and ask prices, also known as the spread.
The bid price is the price at which you can sell a currency pair, while the ask price is the price at which you can buy a currency pair. The spread is the difference between the two prices, and it represents the cost of trading. The smaller the spread, the lower the cost, and the higher the potential profit.
For example, let’s say you want to trade the EUR/USD currency pair, which has a bid price of 1.1800 and an ask price of 1.1802. This means that the spread is 0.0002, or 2 pips. If you think that the EUR will appreciate against the USD, you can place a buy bet on the EUR/USD pair at the ask price of 1.1802. If you think that the EUR will depreciate against the USD, you can place a sell bet on the EUR/USD pair at the bid price of 1.1800.
To calculate the profit or loss of a spread forex trade, you need to multiply the stake (the amount you bet per pip) by the number of pips the price moves in your favor or against you. For example, if you place a buy bet of $10 per pip on the EUR/USD pair at 1.1802, and the price rises to 1.1812, you will make a profit of $100 (10 pips x $10). However, if the price falls to 1.1792, you will lose $100 (10 pips x $10).
The main purpose and objective of this blog post is to explain what is spread forex and why does it matter for forex traders. By reading this post, you will learn the basics of spread forex, the factors that affect the spread, the pros and cons of spread forex trading, and how to compare spread forex with other types of forex trading.
The Most Important Factors Spread Forex Trading
The spread forex is influenced by several factors that can affect the supply and demand of the currency pairs, and thus the bid and ask prices. Some of the most important factors are:
- Liquidity: Liquidity refers to the ease and speed of buying and selling a currency pair in the market. The more liquid a currency pair is, the more buyers and sellers there are, and the lower the spread. The less liquid a currency pair is, the fewer buyers and sellers there are, and the higher the spread. Liquidity is affected by the trading volume, the popularity, and the availability of the currency pair. For example, the EUR/USD pair is one of the most liquid and traded currency pairs in the world, and it usually has a very low spread. On the other hand, the USD/ZAR pair is one of the least liquid and traded currency pairs in the world, and it usually has a very high spread.
- Volatility: Volatility refers to the degree and frequency of price fluctuations in the market. The more volatile a currency pair is, the more unpredictable and risky it is, and the higher the spread. The less volatile a currency pair is, the more stable and predictable it is, and the lower the spread. Volatility is affected by the economic, political, and social events that can cause sudden changes in the market sentiment, supply, and demand of the currency pair. For example, the GBP/USD pair is one of the most volatile currency pairs in the world, and it often has a high spread, especially during times of Brexit uncertainty. On the other hand, the USD/CHF pair is one of the least volatile currency pairs in the world, and it often has a low spread, especially during times of market stability.
- Market conditions: Market conditions refer to the overall state and direction of the market. The market can be either bullish or bearish, meaning that the prices are either rising or falling. The market can also be either trending or ranging, meaning that the prices are either moving in a clear direction or moving sideways. The market conditions can affect the spread forex by changing the supply and demand of the currency pair, as well as the expectations and preferences of the traders. For example, when the market is bullish and trending, there may be more demand for buying a currency pair than selling it, and the spread may widen. When the market is bearish and ranging, there may be more supply for selling a currency pair than buying it, and the spread may narrow.
- Broker fees: Broker fees refer to the charges and commissions that the broker applies to the spread forex trade. The broker is the intermediary that connects the trader to the market and executes the trade. The broker may charge a fixed or variable fee, depending on the type of account, the currency pair, and the market conditions. The broker fee is usually included in the spread, meaning that the trader pays the fee when opening and closing the trade. The broker fee can affect the spread forex by increasing or decreasing the cost of trading. For example, if the broker charges a high fee, the spread will be higher, and the trader will have to pay more to enter and exit the trade. If the broker charges a low fee, the spread will be lower, and the trader will have to pay less to enter and exit the trade.
Advantages and Disadvantages, Spread Forex Trading
Spread forex has its advantages and disadvantages, depending on the trader’s goals, skills, and risk appetite. Some of the pros and cons of spread forex are:
- Lower costs: One of the main advantages of spread forex is that it has lower costs than other types of forex trading. This is because the trader does not have to pay for the actual currencies, but only for the difference between the bid and ask prices. This means that the trader can save on the transaction costs, such as the exchange fees, the conversion fees, and the transfer fees. Moreover, the trader can also benefit from the tax advantages of spread forex, depending on the jurisdiction and the regulations. For example, in some countries, spread forex is considered as gambling, and the profits are not subject to capital gains tax or income tax.
- Higher leverage: Another advantage of spread forex is that it offers higher leverage than other types of forex trading. Leverage is the ratio of the trader’s capital to the broker’s capital, and it determines how much the trader can borrow from the broker to trade. The higher the leverage, the more the trader can trade with a smaller amount of capital. For example, if the trader has $1,000 in their account, and the broker offers a leverage of 100:1, the trader can trade up to $100,000 worth of currency pairs. This means that the trader can amplify their profits, but also their losses, by using leverage.
- Market risks: One of the main disadvantages of spread forex is that it involves high market risks than other types of forex trading. This is because the trader is exposed to the price movements of the currency pairs, which can be unpredictable and volatile. The trader can lose more than their initial stake if the market moves against their position, and they do not have a proper risk management strategy. Moreover, the trader can also face the risks of slippage, gaps, and margin calls, which can affect the execution and the outcome of the trade. For example, if the market suddenly jumps or drops due to a news event or a market shock, the trader may not be able to close their position at the desired price, and they may incur a larger loss than expected.
- Broker dependency: Another disadvantage of spread forex is that it depends on the broker’s reliability and integrity. The broker is the one who provides the platform, the prices, and the execution of the trade. The broker can also influence the spread, the leverage, and the fees of the trade. Therefore, the trader has to trust the broker and make sure that they are regulated, licensed, and reputable. The trader also has to be aware of the potential conflicts of interest and the hidden charges that the broker may have. For example, if the broker is a market maker, they may act as the counterparty of the trade, and they may manipulate the prices and the spreads to their advantage.
Tips and Best Practices
To trade spread forex successfully, the trader has to follow some tips and best practices, such as:
- Choosing a reliable broker: The first and most important step for trading spread forex is to choose a reliable broker that offers the best conditions and services for the trader. The trader has to research and compare different brokers, and check their reputation, regulation, license, customer support, and reviews. The trader also has to consider the broker’s platform, prices, spreads, leverage, fees, and instruments. The trader has to choose a broker that suits their needs, preferences, and goals.
- Using a trading platform: The second step for trading spread forex is to use a trading platform that allows the trader to access the market and execute the trade. The trading platform is the software or the application that the broker provides to the trader, and it contains the tools and features that the trader needs to trade. The trader has to choose a trading platform that is user-friendly, secure, fast, and compatible with their device. The trader also has to use the trading platform’s functions, such as the charts, the indicators, the orders, and the alerts, to analyze the market and manage the trade.
- Setting a stop-loss and take-profit: The third step for trading spread forex is to set a stop-loss and take-profit for each trade. A stop-loss is an order that closes the trade automatically when the price reaches a certain level of loss, and a take-profit is an order that closes the trade automatically when the price reaches a certain level of profit. The trader has to set a stop-loss and take-profit to protect their capital and lock in their profits, and to avoid the risks of slippage, gaps, and margin calls. The trader has to set a stop-loss and take-profit based on their risk-reward ratio, which is the ratio of the potential loss to the potential profit of the trade. The trader has to aim for a risk-reward ratio of at least 1:2, meaning that the potential profit is twice as much as the potential loss.
- Managing your emotions: The fourth step for trading spread forex is to manage your emotions and maintain a disciplined and rational mindset. Trading spread forex can be exciting and stressful, and it can trigger various emotions, such as greed, fear, euphoria, and frustration. The trader has to control their emotions and avoid letting them influence their decisions and actions. The trader has to follow their trading plan and strategy, and stick to their rules and limits. The trader also has to review their performance and learn from their mistakes and successes.
Types of Forex Trading
Spread forex is one of the many types of forex trading that the trader can choose from, depending on their style, preference, and goal. Some of the other types of forex trading are:
- Spot forex: Spot forex is the type of forex trading that involves buying and selling the actual currencies at the current market price. The spot forex trade is settled immediately, or within two business days, and the trader owns the currencies until they sell them. The spot forex trade is influenced by the supply and demand of the currencies, as well as the interest rates, inflation, and exchange rates. The spot forex trade is suitable for traders who want to trade the currencies directly, and who have a long-term or medium-term perspective.
- Futures forex: Futures forex is the type of forex trading that involves buying and selling contracts that specify the price, quantity, and date of delivery of the currencies in the future. The futures forex trade is settled at a predetermined date in the future, and the trader does not own the currencies until they deliver them. The futures forex trade is influenced by the expectations and speculations of the future price movements of the currencies, as well as the hedging and arbitrage opportunities.
Conclusion
In this blog post, we have learned what is spread forex and why does it matter for forex traders. We have discussed the factors that influence the spread forex, such as liquidity, volatility, market conditions, and broker fees. We have explained the advantages and disadvantages of trading spread forex, such as lower costs, higher leverage, tax benefits, and market risks. We have provided some tips and best practices for trading spread forex, such as choosing a reliable broker, using a trading platform, setting a stop-loss and take-profit, and managing your emotions. We have also compared and contrasted spread forex with other types of forex trading, such as spot forex, futures forex, and options forex.
Spread forex trading is a type of forex trading that involves betting on the price movements of currency pairs, without buying or selling the actual currencies. Spread forex is important and relevant for forex traders who want to trade the currencies indirectly, and who have a short-term or intraday perspective. Spread forex can offer lower costs, higher leverage, and tax benefits, but it also involves high market risks and broker dependency.
We hope that this blog post has been informative and helpful for you. If you have any questions, comments, or feedback, please feel free to leave them below. Thank you for reading and happy trading!
