All Forex brokers have to mention the size of the spread they offer, because this is a key issue to be considered by every trader. Most importantly, it determines how much profit you’re going to make, which is the main reason we all joined this industry.
The spread is the determines the amount of profit made by the broker from your trades, therefore, the higher the spread, the more the broker makes. On the other hand, higher spreads eat into the trader’s profits, and traders will always try to find the lowest spreads. We argue that the lowest spreads in the market don’t necessarily make them the best spreads. To find the best spreads, there are a lot more considerations that go into the decision.
Why are there spreads in the first place?
The reason is to cover any potential losses from enabling your trade. For a typical ECN broker, when you place a trade, they have to find someone to take the opposite side of the trade. When you place a buy order, someone has to sell you the asset and vice versa. The person you’re trading against could either be a liquidity provider, usually a bank, or another trader.
Before the broker can transfer the trade, though, they have to fill your order at the current market price, which is what you see from your Forex trading platform. What the broker doesn’t know is whether the market price will be different by the time they find these 3rd party since there are hundreds of trades every minute. Essentially, they are taking a risk by filling your order before they find someone to trade against you, and the spread pays for this risk. This is also why spreads become higher when there is high market volatility compared to regular trading sessions.
Find the appropriate broker
Every broker will have different spreads from another, so the first step in finding the best Forex spreads is to choose the broker with the best spreads for you. Remember, just because a broker advertises the lowest spreads does not automatically make them the best broker for you, and this is because spreads depend on the individual trader.
For example, a broker may advertise to have the lowest spreads, some even advertise spreads of 1 pip. Such an offer is very tempting, until you consider that the spread changes from one moment to the next. The same broker’s spread may rise astronomically the next time you attempt to place a trade.
Solution to identifying the best spreads
So, how do you know the rate at which spreads vary? Check their average spread over a month or more.
There are numerous Forex broker review websites on the internet that perform comparisons between brokers and show the broker’s details. On some of these websites, such as TopBrokers.com, you can not only find top forex brokers that will help you with trading, but you can get tools with which you can adjust spreads from current value to average value of up to 3 or even 6 months. Such a tool is incredibly useful and it will tell you how much spread you can expect as you trade with the broker.
The best broker by this measure will be the one with the lowest average spread, even if their live/current spread seems higher than the rest. By knowing the average spread, you identify the broker that keeps spreads low over a long period of time compared to that one who constantly varies the spread. Stability in a broker is essential since this is a 24-hour industry, and you should not be restricted from trading at ease just because spreads are high at that particular moment. Also, you can take a look at MyFxBook, which offers a huge table of spreads comparison. You can compare spreads of most existing brokers there.
The system described above is a variable spread system, which is the one most commonly used by Forex brokers. The alternative could be a fixed spread system where spreads remain the same all the time regardless of market conditions. In such a system, you can expect to receive higher spreads when there is very little volatility compared to a variable spread system. The advantage, though, is that the spread can be lower than that offered in a variable spread system when there is high market volatility.
Change your trading strategy
It all comes down to your trading strategy, what you consider the best forex spread, where one person may prefer one broker instead of the other. Some factors to consider about your trading strategy when deciding about spreads include:
When you trade
As previously mentioned, spreads will typically be higher when markets are volatile compared to when there is only little volatility. There are some traders who completely avoid trading when there is high volatility, such as when economic news is being announced. For such a trader, they should stick to a variable spread system and enjoy low spreads when volatility is low. On the other hand, the trader who thrives in periods of high volatility may want to consider a fixed spread system to minimise costs during these periods.
How often you trade
Spread is applied only once for every trade, so the number of trades you make in a day or week also matter. A scalper who makes tens and even hundreds of trades in a day should find the lowest spreads possible. A swing trader, though, doesn’t need to give this too much thought since the spread will hardly affect their profit.
Trade at the right time
This is another factor that affects trading volume and thus the broker’s risk. The periods with the highest traded volume are during the New York and London sessions, with the busiest times being at the end of day in London and beginning of day in New York. During these times, traders are either opening positions or closing positions, creating a lot of traded volume. During these times, spread is low too, providing for the best Forex spreads.
Stick to currencies with high trading volume
We now know that spread is applied by the broker because of the risk they take in finding someone to take the opposite side of your trade. For major currencies, this risk is reduced because there are many willing 3rd parties, thus the spread is also low. For exotic currencies, fewer traders and even 3rd parties are interested in trading these pairs, so the broker is taking a higher risk, thus the higher spread.
The best spreads are always found when trading the major currency pairs, and you should stick to these so you can find the best spreads.
By Martin Moni