At the moment there are 2 main types of spread:
- Fixed spread – The main characteristic of this type of spread is the fact that this commission is unchanged and does not depend on market factors. As a rule, it is set by the broker himself, or more precisely, by the dealer. This type of spread was very common at the dawn of the development of the foreign exchange market and is currently extremely rare. For a trader, a fixed spread, in most cases, the factor is positive, but if the dealer provides a fixed spread, then its value is usually much more than the net exchange (raw) spread. I don’t want to work with such a spread. However, for operators of trading robots and scalping strategies, this spread is still popular today – there is no need to adjust the robot algorithm for it.
- Floating spread- Floating spread is the most common at present. It is popular for the reason that it is beneficial to all parties that use it. Brokers and dealers can quickly adjust it and adjust it to changing market conditions, which allows us to solve two problems at once: provide the client with better services, and earn money when it expands. This spread fluctuates within a certain range depending on constantly changing market conditions. As a rule, the floating spread under the usual market conditions for the most liquid trading instruments does not exceed 4-5 points, but at the time of a sharp increase in volatility, it can expand sharply and reach 50-60 points. For this reason, trading accounts with a floating spread are not very popular with using robots and advisers of traders, since automatic strategies cannot quickly take into account changes in the spread. For manual trading, this type of spread is profitable.
Minimum Forex spreads are available precisely with market execution and floating spreads.
What does the spread depend on
As I said before, a spread is a commission. Since this is a commission, it means that it must take into account the interest of all participants in the exchange operation – the transaction. As a rule, the spread consists of the interest of the exchange itself and the interest of the broker. In the form of a formula, it will look like this:
Spread = spread of the exchange (bank) + broker spread
The bank/exchange gives you access to the exchange transaction and takes its part for this. A broker is an intermediary in this operation and it is he who brings your application to the exchange and therefore takes a greater part in this process, for which he also takes his part of the commission. Since the participation of the broker is much more significant, the size of the broker spread is much larger than the exchange spread. Since the currency exchange is essentially a coalition of banks, it can be said that the exchange spread will charge you a bank that provides the instrument quote to your broker. The spread that the exchange charges is called a “raw” spread, that is, a spread without adding a markup and a broker spread to it. Currently, it is possible to trade on the exchange only with a “raw” spread. This became possible after creating trading accounts such as ECN.ECN – Electronic Communication Network.
This is a separate communication network for conducting trading operations without taking into account the interest of an intermediary – a broker. It has a clean exchange spread. This is the so-called forex without a spread. It is practically impossible to trade without a spread at all, but on these types of accounts, the spread is much smaller than on others. As long as the broker gives you access to this type of trading operations, it takes into account its interest here too. Only this interest is now expressed not in the form of part of the spread, but in the form of introducing another type of broker remuneration – “commission”. The commission, in this case, will be fixed and will depend only on the volume of the transaction performed by the trader. There is also another type of relationship. These are CLASSIC type trading accounts.
This type of account appeared much earlier than ECN. The essence of this type of accounts is that they have a spread from the exchange and broker, which is why its value will be higher than that of “raw” accounts. However, these accounts do not have a markup, therefore they are much more profitable than accounts with a fixed spread. Also, there is no commission on these accounts.
It should be understood that forex without spreads does not exist. The exchange always takes its commission. If the broker has a completely zero spread, then how he will earn money, you only have to guess…
Returning to the spread itself, there are several important factors that affect the value of the floating spread at a certain point in time:
- The liquidity of a trading instrument is the ability of a product to be quickly sold or bought. All trading instruments on the exchange are divided into groups according to a number of parameters, one of which is liquidity. Liquidity is popularity. The more popular a trading instrument, the higher its liquidity. This is the main parameter of the market, which affects the size of the spread. The more liquid the trading instrument, the less the spread on it. The less popular the tool, the greater the spread on it. For example, on the EURUSD currency pair, the spread at the moment is 1 point. And on the EURHKD currency pair, the spread is 187 points. This is the basic formula, but it has a number of corrections that displace this dependence under certain conditions.
- Trading instrument volatility is the number of price changes per unit of time. The number of price changes is measured in ticks. The more ticks occur in a given time, the higher the volatility. Of course, with the increase in volatility, the price course in points also increases. The relationship between the spread and volatility is direct. The higher the volatility of the instrument, the higher the spread at times of volatility jumps, and the lower the volatility, the lower the spread. Again, these are basic features and may be distorted. As long as the volatility is volatile, the increase in the spread will also be not constant, but spasmodic. For example, at the moments of publication of important fundamental news, the volatility at the moment increases sharply, and after it, the spread widens, but already at the next moment of time, the volatility decreases – the spread also decreases. It is because of this property that a floating spread is not popular among traders using automated trading systems. At the moments of its spasmodic expansion, orders for off-system transactions can be triggered, which subsequently can lead to the collapse of the entire trading system.
- Trading hours – There is no point in explaining for a long time. The spread depends on the time of day. When the trading session at which the main operations with this trading instrument take place is open, the spread will always be lower than when it is closed; the session is closed. This can be observed in the main currency pairs at night when the European trading session is closed and quotation occurs in Asian. The spread value is also affected by the moment of recalculations – clearing. It occurs at 24:00 at the time of the broker and at the closing moments of the exchange on weekends and holidays. At these points, the spread tends to expand.
- Broker’s interest – Of course, the most basic part of the spread is the interest of an intermediary, that is, a broker or dealer. The broker sets this part on his own based on his own vision of the situation. Different brokers have different spreads. Everyone wants to earn money, and the most popular brokers find a balance between personal interest and the interest of the client. This is one of the reasons for the emergence of ECN accounts. Less popular brokers set a higher spread, and the most popular, on the contrary, try to reduce the spread as much as possible.