A spread is the difference between the price a trader pays and the price offered by a broker. It is expressed in pip/s. For instance, a trader’s price is 4.000 and a broker’s offer is 3.500, the difference between them is .500. Thus, the spread is 500 pips. Though it’s among the basic concepts in forex, a beginner may still find it unclear. Usually, it is due to the thinking that all spreads are the same.
Fixed Spread
As its name suggests, a fixed spread is “fixed”. Regardless of activity and market conditions, it retains its original value. An advantage is that an early trade may be placed. Typically, it is set by a broker. Should he and a trader agree on a price, the amount is maintained despite the quality of a stock varying. To ensure its constancy, it has to be initially flexible. If properly valued, any factor that may affect it cannot influence a change.
Advantages
-best for day traders
-easy to plan and can be effectively executed
Example
When converting euros to US dollars, should a broker promise a trader 10 pips amounting to a $400 difference, transactions may be made again over time yet the difference still has to be $400. The spread is considered fixed as economic crises, liquidity, market volatility, and quantities of trades have been ignored.
Variable Spread
A variable spread is a pip that may easily change. For a trader to stay on track with his investment, he needs to pay attention to the most recent concerns regarding his stock. A change may cause a major impact which can sometimes be thrice more. Advanced traders are usually the ones that profit with the type of spread.
Advantages
-can be incredibly low during high volatility
-securities may be bought cheaply
Example
When economic and financial crises occur in countries using euros and US dollars, the exchange value of the currency pairs is affected. Thus, the trade in point is also influenced. This is an example involving a variable spread. The initial 10 pips of $400 may change to $250 or $450.
Fixed versus Variable Spread
Should a trader intend to stay in the forex industry for long, deciding between using a fixed or a variable spread is not as significant as to a short-term trader. If he plans to pursue a single transaction, losing a hundred pips won’t change the stakes for him as the loss may just be recovered over time through the changing trading costs.
Provided by Admiral Markets Australia