Spreads In Forex

The difference between the bid and ask price is the spread, which constitutes the cost of the trade. In fact, all traded instruments - stocks, futures, currencies, bonds, etc. - have pip spread. If a trader buys at 1.2884 and then sells immediately, there is a 3 pip spread loss incurred. The trader will need to wait for the market to move 3 pip spread in favour of his/her position in order to break even. If the market moves 4 pip spread in your favour, he/she starts to profit.

Many online trading firms like to promote margin forex trading as an almost cost-free instrument - commission free, no service charge, no hidden cost, etc. Traders should know that pip spread is the cost of trading, and in fact, it also represents the main source of revenue for the market maker, i.e. the forex trading company. The pip spread may appear to be a minuscule expense, but once you add up the cost of all of the trades, you will find it can eat away quite a portion of your account or your profit. If you check the price tag of a T-shirt before you buy it, do the same thing when you trade forex, look into the pip spread before you decide to trade. Your trade needs to surmount the spread (the cost) before it profits.

Know your expense: the pip spread
pip Spread is the cost to a trader. On the other hand, it is a revenue source of the firm who executes the trade. In the foreign exchange market, the pip spread can vary a lot depending on the executing firm and the parties involve. Inter-bank foreign exchange can have pip spread as tight as 1-2 pips spread, while the bank can widen the spread to 30-40 pips spread when dealing with individual customers. If you check out the pip spread of those small exchange shops nearby the tourists' sights, you may find the pip spread can go up to 400 to 600 pips.

Thanks to keen market competition, the pip spread of online forex trading is getting tighter in the past few years. For major online forex companies, their pip spreads are essentially the same. The table shows the typical pip spread of four major currencies of online forex trading at the time being:
Pair Spread
EUR/USD 2-3 pips
USD/JPY 3-4 pips
USD/CHF 5 pips
GBP/USD 5 pips

It is important for a trader to find the tightest spread as possible, but anything that is far lower than the typical pip spread is skeptical. The pip spread is the main source of revenue of a forex trading firm, if the firm cannot earn enough from the pip spread, there maybe some other hidden cost in the transaction.
Another point to note is that many market makers often widen the pip spread when market conditions become more volatile, thus increasing the cost of trading. For instance, if an economic number comes out that is off expectations, thereby creating a flood of buyers or sellers, the market maker may often widen the pip spread to restore the balance between buyers and sellers. As a result, traders should inquire about the execution practices of their clearing firm; firms with poor execution of orders and a tendency to widen pip spreads will ultimately result in higher trading costs for the end user.

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