Do you intend to become a currency trader in future? Probably you have heard of forex trading and maybe wondering how it works? Also, you might have come across forex spread, and you are yet to know what is spread in forex trading.
This article has all the answers for you. It explains what forex trading is, and explains what is spread in forex trading. It also gives the types of spreading used in forex trading.
Forex spread in Forex trading is defined as the difference between the buying (ask) and the selling (bid) in the currency market. Sometimes the buying price may be a bit higher which may result in losses at the beginning of your trade.
Therefore, it is essential to understand the concept of Forex spread and also identify brokers who have the smallest spread in the forex trading market.
Below are some of the types used in forex trading
Types of spread used in forex trading :
- Fixed Spread
In this type of spread, you find that the difference between the asking price and the bid price is constant and does not depend on the market condition.
- Variable Spread
Here, the currency price changes with the market condition. However, the variable spread is low when the market is inactive but widens up when the market is active.
- Fixed Spread with an Extension
In this type of spread, one part is predetermined and the dealer determines the other part.
For instance, the dealer determines the selling price of the currency depending on the buying price. If the buying price is high, the dealer may decide to sell the currency with 5% extra price.
Examples of Forex Spread
EUR/USD spread in 4 decimal points in quotes:
– Ask is 1.3102, the bid is 1.3100; therefore, the spread is 1.3102-1.3100= 0.0002 or 2 pips
GBP/JPY spread with 2 decimal points in quotes:
– Ask is 124.17, the bid is 124.11, the spread is 124.17 – 124.11 = 0.06 or 6 pips.
EUR/USD spread with 5 decimal points in quotes:
– Ask is 1.31023, Bid is 1.31004; spread is 1.31023 – 1.31004 = 0.0019 which can also be called 1.9 normal pips or 19 fractional pips.
USD/JPY spread with 3 decimal point in quotes where
– Ask is 86.682 and Bid is 86.670 therefore spread will be 86.682 – 86.670 = 0.012 also called 1.2 normal pips, 12 fractional pips.
How to Use your Knowledge in Forex Trading
You should always remember that if you want to buy a currency, you need do that at an Ask price and then sell it at a Bid price. Therefore, you should always be aware of your spreads when developing your forex trading system.
For instance, let’s say that your system requires you to use 50 pips and take profit 20 pips to stop loss and levels. You can do that in two ways:
Add your TP value to your open value and subtract your SL value from the same level. By doing this, you will your will increase the possibility of hitting your stop loss and at the same time decrease the likelihood of your take profit being hit
Otherwise, you can deduct spread from both your SL and TP. This method will maintain the possibility of the SL and TP being hit however it will reduce your profits in case of TP or increase loss in case of SL.
As you can see, forex trading requires a deep understanding of the currency market. For one to succeed in the trade, he/she should think wisely on which method or type of spread to use. This article will be helpful to you in case you are planning to start forex trading.
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