I remember the day I first discovered the foreign exchange market. I was immediately captivated by its scale and pace. According to the Bank for International Settlements (BIS), the forex market sees daily trading volumes exceeding 6.6 trillion USD (Bank for International Settlements, 2019). That number alone made me realize how massive and liquid this marketplace is.
Yet, when I started diving deeper, the first real hurdle I faced was understanding how the spread worked. At the time, “what is spread in forex” felt like a strange phrase that no one bothered to fully explain. People threw it around as if everyone just knew. But the truth is, if you can’t explain the spread in your own words, you might be missing out on a fundamental piece of forex knowledge.
I’ve written this article with my own early struggles in mind. And I’m aiming to simplify everything about the spread so you don’t have to scratch your head in confusion like I once did. We’ll go deep, but we’ll keep it friendly. Let’s get started.
Understanding the Basics of Forex Trading
Before fully exploring “what is spread in forex,” it helps to understand a few forex fundamentals. In the forex market, you’re always trading one currency for another. For instance, if you think the euro (EUR) will strengthen against the U.S. dollar (USD), you would buy the EUR/USD pair, hoping that the euro’s value increases relative to the dollar.
Short sentences are one of my favorite ways to explain big concepts. So here’s what you need to know in a nutshell:
- Forex is the biggest financial market in the world.
- Currency prices move up and down due to supply and demand.
- You always buy one currency and sell another.
Currency Pairs and the Role of Brokers
When you open a trading platform, you’ll see currency pairs listed with two prices: a bid price and an ask price. Different brokers may offer slight variations, but the idea remains the same. You’ll also see major pairs like EUR/USD, minor pairs like GBP/CAD, and exotic pairs like USD/TRY.
Your broker essentially connects you to the market. Brokers quote you two prices: one at which you can buy the currency pair, and one at which you can sell. This difference between these two prices is exactly where the spread comes into play.
The Concept of Spread in Forex
Now, let’s tackle the big question: “what is spread in forex?” If I need to phrase it simply, the spread is the fee you pay your broker every time you open a trade. It’s usually expressed in pips. So if EUR/USD has a bid price of 1.1000 and an ask price of 1.1002, the spread is 2 pips.
Defining Bid and Ask
The bid price is the amount the market is offering for your currency pair. If you want to sell a currency pair right now, you’ll typically sell at the bid price.
The ask price is the cost if you want to buy. If you decide to open a buy position, you’ll do so at the ask price.
That tiny gap between the bid and ask is the spread. But it’s more than just a gap. It’s a fundamental trading cost that can affect your bottom line.
Where Does the Spread Come From?
Today’s forex market is highly competitive. Banks, hedge funds, and other financial institutions act as liquidity providers. They’re constantly streaming prices into global networks, creating deep pools of liquidity. Brokers source these bid and ask prices from different providers. Then, your broker might add a small markup, resulting in the final spread you see on your trading platform.
This markup keeps the broker’s lights on. In other words, it’s how they make money without necessarily charging a commission on each trade. As a new trader, it’s essential to remember that every time you open a position, you effectively start a few pips in the red. You’ll need the market to move beyond the spread in your favor before you can profit.
Why the Spread Matters
When traders ask me, “Why is the spread so important?” my answer is always the same: because it affects your profitability. Let’s imagine you’re a scalper who aims to grab small profits by making quick trades. If each trade you open starts with a 3-pip deficit, you need at least 4 or 5 pips in favorable movement to come out ahead. That can be hard if the market isn’t moving much.
Even for swing traders or position traders who target bigger moves, high spreads can chip away at long-term profitability. Over hundreds of trades, you can easily lose a significant amount of capital if the spread is too wide. That’s why it’s vital to understand “what is spread in forex” and how to manage it.
Factors Affecting the Spread
The forex spread isn’t random. Many factors can cause spreads to widen or narrow throughout the trading day.
Liquidity
Liquidity is the lifeblood of any financial market, and forex is no different. Liquidity refers to how easily an asset can be bought or sold without affecting its market price. In the major currency pairs (like EUR/USD, GBP/USD, or USD/JPY), liquidity is generally high, and this often translates into lower spreads.
But when you move to exotic pairs (like USD/ZAR or USD/MXN), liquidity can thin out. Fewer participants are willing to buy or sell those currencies. This lower liquidity can lead to higher spreads. If you’re trading exotic pairs, expect a bigger gap between bid and ask.
Volatility
Large price swings can trigger wider spreads. During major economic events, like Non-Farm Payroll (NFP) releases in the U.S. or central bank interest rate announcements, the market can become highly volatile. Suddenly, prices can jump around in unpredictable ways.
Brokers might widen the spread to protect themselves from fast-moving prices. If you’re trading during these events, you could see the EUR/USD spread balloon from 1 or 2 pips up to 5 or 10 pips. This can eat into your potential profits if you’re not careful.
Timing
Forex is a 24-hour market, but liquidity isn’t the same around the clock. The major trading sessions—London, New York, and Tokyo—have specific hours. Traditionally, the London session (8 AM to 4 PM GMT) and the overlapping period with New York (1 PM to 5 PM GMT) see the highest volumes. This typically means tighter spreads during these peak times.
However, during quieter periods (like after the New York close and before Tokyo fully kicks in), the market can be thinner. That often leads to wider spreads. So if you’re trading late at night (in your local time), remember to check whether the spreads are still favorable.
Broker Type
Different types of brokers handle the spread differently. Market makers might offer fixed spreads. Electronic Communication Network (ECN) brokers or Straight Through Processing (STP) brokers usually offer variable spreads that change with market conditions. Make sure you know your broker’s category. It plays a key role in how the spread is derived.
How to Read the Spread on Your Trading Platform
When you open your trading platform, you’ll typically see two columns of prices next to each currency pair. The left column is the bid, and the right is the ask. Some brokers display the difference right there, showing a small label for the spread in pips.
Let’s say EUR/USD shows 1.1000 for the bid and 1.1002 for the ask. The difference is 0.0002, which is 2 pips. If you buy, you’ll do so at 1.1002. If you sell, you’ll do so at 1.1000. Once you open your trade, keep in mind that you’ll have to make up that 2-pip difference just to break even.
Different Types of Spreads in Forex
Understanding “what is spread in forex” goes beyond just learning it’s the bid-ask difference. There are different types of spreads you might come across.
Fixed Spreads
A fixed spread doesn’t change, regardless of what’s happening in the market. Some brokers, especially market makers, promise fixed spreads on major pairs like EUR/USD, GBP/USD, or USD/JPY. The main advantage here is you always know your cost upfront. If your broker says the spread on EUR/USD is always 2 pips, you can plan accordingly.
However, fixed spreads can be misleading. When the market experiences extreme volatility, brokers might re-quote prices or fail to honor fixed spreads. Always read your broker’s terms and conditions to see if there are clauses that allow them to widen spreads under certain conditions.
Variable Spreads
Variable spreads fluctuate with market conditions. During busy trading sessions or stable market times, you might see the EUR/USD spread around 0.5 to 1 pip with certain ECN/STP brokers. But if there’s news or sudden volatility, that same pair might balloon to 5 pips or more.
In return for these fluctuations, many traders using ECN brokers receive direct raw spreads that are typically lower than with fixed-spread brokers during normal conditions. This setup can be beneficial for scalpers who want the tightest spreads when liquidity is high.
Zero Spread Accounts
Some brokers offer “zero spread” accounts, but there’s a catch. These accounts often involve paying a direct commission for each trade. You’ll see a raw spread of 0 or close to 0 pips on major pairs. However, you’ll be charged a separate fee per lot traded.
If you’re trading large volumes, this might be attractive. If you deal in small lot sizes, the commission might eat into your profits. Always weigh the pros and cons before jumping into a zero spread account, and be sure to check the broker’s reliability.
My Personal Experience with Spreads
When I started trading, I didn’t pay enough attention to the spread. I figured it was just a small cost, so why worry? But I was scalping on EUR/USD. At times, the spread would widen to 2 or 3 pips during less liquid hours. I’d open a position, only to discover I needed a decent move to break even. After a few trades ended at a loss or tiny profit, I realized how critical the spread was to my strategy.
That was my wake-up call. I began searching for the right broker type, analyzing market times with the lowest spreads, and reading up on “what is spread in forex” more deeply. This single concept helped me refine my overall strategy and cut unnecessary costs.
Common Mistakes Traders Make with the Spread
It’s easy to underestimate the spread. Here are some mistakes I’ve seen (and made myself):
- Ignoring the spread when entering trades.
- Trading during illiquid times without checking spread size.
- Failing to compare brokers for better spreads.
- Using high-spread exotic pairs for scalping.
Each of these mistakes can hurt your bottom line. As a rule of thumb, always check the spread before you click “buy” or “sell.” It’s a habit that can save you plenty of headaches.
Practical Tips to Manage the Spread
It’s one thing to know “what is spread in forex,” but how do we manage it practically?
1. Choose the Right Broker Type
If you’re a scalper like me, you’ll likely want the tightest spreads possible. An ECN broker might offer variable spreads as low as 0.1 or 0.2 pips during liquid times, though you’ll pay a commission. If you’re a swing trader who places fewer trades, you might be fine with fixed spreads that remain constant.
2. Trade During Peak Market Hours
As mentioned earlier, the best liquidity often occurs during the London session and the New York-London overlap. That’s when spreads tend to be tightest. If possible, align your trading schedule with these times.
3. Keep an Eye on News Events
Big news can drastically widen spreads. Check an economic calendar (such as Forex Factory or another reputable site) to see when announcements might cause volatility. Either avoid trading close to these events or be prepared for the risk of higher spreads.
4. Focus on Liquid Pairs
I used to experiment with exotic pairs because of their high volatility. But the spreads were sometimes enormous. Majors like EUR/USD or USD/JPY usually have tight spreads, making them more cost-effective for typical retail traders.
5. Compare Broker Spreads
Don’t just go with the first broker that pops up. Look at a few. See how their spreads compare for the pairs you want to trade. Read reviews and verify their regulatory status. A difference of just 1 pip might sound tiny, but it adds up over hundreds of trades.
6. Combine Spread Awareness with a Sound Strategy
Spread management is crucial, but it won’t make you profitable if your trading strategy is weak. You still need a solid trading plan, risk management rules, and emotional discipline. Think of spread control as a vital piece of the puzzle, not the entire picture.
The Role of Technology in Spread Management
The world of forex trading keeps evolving. Algorithms and automated trading systems are now common. They can help you place trades in milliseconds, taking advantage of real-time quotes. But it’s essential to remember that even high-speed trading bots can’t eliminate the impact of wide spreads.
When volatility strikes, algorithmic traders may face slippage or experience re-quotes. Therefore, even with advanced technology, understanding “what is spread in forex” should remain a top priority. Technology can help you react faster, but it can’t change the basic mechanics of bid and ask.
Actionable Steps for Minimizing Spread Costs
By this point, you know how spreads work and why they vary. Let’s outline some concrete steps you can take right now to reduce your trading costs.
1. Open a Demo Account and Test
Before committing real money, test different brokers on a demo account. Check how their spreads behave during various market sessions. Are they stable? Do they skyrocket during news? This free experiment can save you from costly surprises later.
2. Use a VPS if You’re Automated
If you run automated strategies or Expert Advisors (EAs), consider renting a Virtual Private Server (VPS) close to your broker’s data center. This can lower latency, ensuring you get the quotes faster. Reduced execution delay might help you catch narrower spreads more efficiently.
3. Diversify Your Currency Pairs
Sticking only to EUR/USD might feel limiting, but focusing on just one pair can lead to missed opportunities. Consider other major pairs like GBP/USD, AUD/USD, or USD/JPY, especially during their optimal trading sessions. Monitor their spreads over time and add them to your trading plan if the costs remain acceptable.
4. Stay Flexible
If the spread widens because of an unexpected news event, have the discipline to wait it out. Sometimes, doing nothing is better than forcing a trade in adverse conditions. If you see your usual 1-pip spread skyrocket to 5 pips, pause. Wait until things normalize or until you see a very strong reason to trade.
5. Combine Fundamental and Technical Analysis
Yes, this goes outside the direct realm of spreads. However, combining fundamental and technical analysis can reduce the chance of getting stuck in trades during high-spread periods. If you’re aware of upcoming news announcements and also see a technical setup aligning with strong momentum, you might capture bigger moves. That can offset higher spreads if they occur.
Spreads and Risk Management
I learned the hard way that good risk management isn’t just about setting a stop-loss. It’s also about factoring in trading costs. If your trading account has strict risk parameters—say you never risk more than 2% per trade—make sure the spread cost doesn’t eat into that too much.
For instance, if you’re placing a stop-loss 10 pips away on EUR/USD but the spread is 3 pips, you have a narrower buffer against adverse price movements. In that scenario, you might consider adjusting your position size or your stop-loss level. Always keep “what is spread in forex” in mind when calculating your trade risks.
Research-Backed Insights on Spread and Trader Behavior
According to a study published in the Journal of Banking & Finance (Menkveld, 2016), high-frequency traders and electronic platforms have compressed spreads in many currency pairs over the past decade. However, the same study indicates that in periods of market stress, such as global economic uncertainty or political crises, spreads can widen considerably as liquidity evaporates.
This aligns with real-world experience. When everything is calm, technology and competition compress spreads. But when fear hits the market, participants become cautious, and spreads reflect this caution. Keep that in mind if you decide to trade during global events like major elections or central bank policy surprises.
Trading Strategies Affected by Spreads
Some trading styles are more sensitive to spreads than others.
Scalping
Scalpers target small gains. Consequently, high transaction costs (spreads) can severely limit their profitability. If you scalp and your average take-profit is 5 pips, a 2-pip spread already takes a big chunk of your potential reward. Many scalpers opt for accounts with very tight spreads or use ECN brokers to match their high-volume, short-term approach.
Day Trading
Day traders open and close trades within the same day. They usually target more pips per trade than scalpers—perhaps 20 or 30 pips. Spreads still matter, but a slight difference won’t break their strategy as quickly. Still, if you’re a day trader, be mindful of news events that could spike spreads intraday.
Swing Trading
Swing traders hold positions for days or even weeks. Their targets range from 50 to a few hundred pips. In such cases, a 2-pip or 3-pip spread might not be a deal-breaker. But it’s still essential to choose a broker that offers fair spreads because, over many trades, the cumulative cost adds up.
Position Trading
Position traders focus on long-term movements and can hold trades for months. They care more about fundamental shifts in interest rates, economic growth, and policy decisions. Since they aim for larger moves, spreads are less of a concern. However, that doesn’t mean they ignore them entirely. Over multiple entries and exits, even a seemingly small spread can erode gains.
Spread versus Commission
If you’ve been researching forex brokers, you’ve likely seen some that say, “We offer zero commission” while others mention “Raw spreads plus commission.” Which one is better?
It depends on your trading style. Brokers that mark up the spread instead of charging a separate commission might be simpler for new traders to understand. You just see the total cost in the spread, and that’s it.
On the other hand, raw spread brokers that charge a commission per lot often provide very competitive spreads. For active traders, this might result in lower overall fees. But you need to ensure you’re trading enough volume to justify that separate commission.
Avoiding Spread Traps in Volatile Markets
When the market is on edge—maybe there’s a breaking news headline or a surprise announcement—spreads can become erratic. One second you see a 1-pip spread on EUR/USD, and the next second it could jump to 5 pips or more. In these moments, I’ve learned to treat trading like driving in a storm.
If you must trade, reduce your risk. Use smaller lot sizes. Place tighter stops or wait for the initial shock to subside before entering. And if you’re new to forex, consider waiting until the market calms down. Fighting wide spreads is like swimming against a strong current. It often doesn’t end well.
Final Words on Broker Choice
Sometimes, I see new traders spend weeks building a strategy—only to sign up with the first broker they come across. That’s risky. Since the spread is a significant cost, choosing a broker should be near the top of your priority list.
Regulation
Check if the broker is regulated by a reputable body—like the Financial Conduct Authority (FCA) in the UK or the Australian Securities and Investments Commission (ASIC). A regulated broker is more likely to maintain transparent practices regarding spread, execution, and pricing.
Customer Support
Even spread questions can lead to confusion. If you’re unsure why your spread jumped from 1 pip to 5 pips, good customer support can clarify quickly. If they’re unhelpful or unresponsive, that’s a red flag.
Trading Platform and Tools
Some brokers offer advanced platforms that let you monitor spreads in real-time. Others include features like Level II market depth, so you can see the volume on the bid and ask side. These can be helpful tools, especially if you’re an active intraday trader.
Here’s a Recap
We’ve covered a lot of ground, so let’s recap the essential points about “what is spread in forex”:
- The spread is the difference between the bid and ask price. It’s usually measured in pips.
- Spreads can be fixed or variable, depending on market conditions and broker type.
- High liquidity usually leads to tight spreads, while low liquidity often results in wide spreads.
- Volatility, timing, and broker choice also affect spreads.
- Scalpers and day traders should be especially cautious about spreads because they make multiple trades.
- Practical steps to lower spread costs include choosing the right broker, trading liquid pairs during peak sessions, and keeping an eye on major news events.
Remember, the spread is a cost you pay on every trade. It might seem small, but over time, it can add up significantly.
Take the Next Step
I hope this deep dive has shed light on what is spread in forex. Whether you’re a scalper aiming for quick gains or a longer-term trader with broader price targets, understanding how spreads work is essential for your success.
Now I’d love to hear your thoughts. Has the spread impacted one of your trades in a surprising way? Did you discover a broker with particularly tight spreads that improved your trading? Share your experiences, questions, or tips in the comments below, and let’s keep the conversation going.
By staying mindful of spreads and continuously refining your strategy, you’ll be one step closer to consistent profitability. Keep learning, keep testing, and never hesitate to seek feedback from experienced traders. That’s how I improved, and I believe the same approach will work for you. Good luck and happy trading!
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References:
- Bank for International Settlements (2019). Triennial Central Bank Survey of Foreign Exchange and Over-the-counter (OTC) Derivatives Markets.
- Menkveld, A. (2016). High-Frequency Trading and Price Discovery. Journal of Banking & Finance, 63, 9-20.
- Forex Factory (forexfactory.com) – for economic calendars and news events.