When you buy or sell currency in the Forex market, you may be confused by the term “spread.” This term refers to a price difference between two different assets. You might have heard of Variable spreads, Market liquidity, and time of day. But what is spread and what can it do to your trading? Read on to discover more. Ultimately, spreads are an important part of your trading strategy, and you need to understand the details before making a decision.
Variable spreads
A variable spread is the difference between the ask and bid price of a currency. It fluctuates based on market volatility and supply and demand. Non-dealing desk brokers obtain prices from several liquidity providers and pass them on to traders. Since they don’t control spreads, the spreads are determined by market forces. The greater the volatility, the wider the spread. Variable spreads are beneficial to traders with larger accounts.
Fixed spreads provide predictability and are more suitable for small traders. On the other hand, variable spreads may be more suitable for frequent traders with large capital. Both spread types have their pros and cons, but the best type for you depends on your risk appetite, style of trading, execution quality, and ability to react quickly in volatile markets. To find out which is right for you, read the following:
In general, variable spreads are cheaper than fixed spreads. They vary according to market conditions and can be wider or narrower depending on the type of currency pair you’re trading. For instance, the most expensive currency pairs often have the highest spreads, but that doesn’t mean they’re always the best. You should also keep in mind that the wider the spread, the higher the cost. And if you’re new to trading, try trading on lower leverage, as spreads can become too high in some cases.
Market liquidity
The term “liquidity” is used to describe a currency pair’s capacity to be bought or sold quickly. If the trading volume of a currency pair is high, the liquidity of that currency pair is relatively high. This means that it is more likely that buyers and sellers will pay the best price possible to obtain the asset. However, high liquidity does not necessarily mean stable pricing. It is important to note that the bid-offer spread should not be too large or too small, as this can be a sign of bad liquidity.
The spread is measured in pips, a small unit of change in the price of a currency pair. For example, one pips for the Euro/USD is equal to 20%, while the spread for the Euro/GBP currency pair is five ppt. While a high spread is generally indicative of low liquidity and high volatility, a low spread indicates high liquidity and low volatility. Traders usually prefer to trade with low spreads when liquidity is high.
During volatile times, spreads may be wide. If the unemployment rate is higher than expected, the dollar will likely fall against most currencies. Geopolitical events like earthquakes and riots can also cause wide forex spreads. Because of this volatility, forex brokers are forced to charge wider spreads to cover the increased risk. While forex brokers are able to charge a tighter spread than they would otherwise, unforeseen events and economic data can cause wider spreads.
Time of day
Forex traders should be aware of the time of day spread. Most forex trading is done during major market sessions, such as those in New York, London, and Sydney. Often, the difference between these sessions is small, but this isn’t always the case. For example, a high time of day spread means the market is volatile and low liquidity, so high time of day spreads can be dangerous. A low time of day spread means that the difference between the ask and bid price is tiny.
There are two overlaps between Asian and European markets. The London/Sydney overlap is the most active, while the U.S./London overlap is the least active. This overlap is typically one hour long, and it is usually a good time to trade the EUR/JPY currency pair. However, it’s important to consider the time of day spread for any currency pair you are trading. This is especially important if you’re considering trading forex in a foreign currency.
During the week, the forex market is open around the clock, but day traders only trade for a few hours each day. During these two hours, the market is more liquid and offers larger range movements. However, if you’re a swing trader, you don’t need to be as sensitive as a scalper, as speculative traders can benefit from heavier trading. A higher liquidity means more opportunities for trading and higher profit targets.
