Forex brokers truth (Part 3). Forex Spreads
This should be easy. Only an inexperienced trader takes the first recommended broker. Others do lots of comparisons before settling with a choice. One of the comparison criteria is brokers’ spreads for different currency pairs. If, for example, I know that my strategy requires trading USD/JPY and GBP/JPY, I’ll go and check all available spread options with different brokers and will be looking to pick the lowest spreads for the currencies of my choice.
Same selective tactics apply when shopping for leverage, margin, lot sizes etc.
Novice traders often don’t have preferred pairs as they also don’t have finished and polished trading strategies, therefore they are fine with a broker who offers more or less low spreads on common pairs, like EUR/USD, for example.
For a Forex broker it is easy to lure in such traders. Some brokers would offer competitive low spreads for common currency pairs, like EUR/USD, GBP/USD, which traders tend to compare most, but for other pairs set higher than average spreads. Novice traders buy it, and brokers stay happy. Later traders realize they want to trade other pairs as well…
Another way for Forex brokers to attract a client is to advertise about lower spreads. A broker would say that their spreads are “as low as 0.7 pips”.
There comes another wave of “they think they are smart” traders, who are glad to take such a bargain. What traders don’t realise while comparing the spreads it that those spreads are variable. Unless you are trading with true ECN broker, variable spreads could be quite costly. The problem with variable spreads that traders always complain about is: you seem to never get a spread you’ve been lured by in the advertisement. Variable spreads will vary depending on the market volatility and liquidity. Higher volatility — higher spread, lower volatility — lower spread. At the same time: higher liquidity - lower spreads, lowers liquidity - higher spreads. Could be difficult for a beginner trader to get a grasp on it at first, I know.
Opposite to variable spreads are fixed spreads: fixed spreads are easier to trade with, they don’t vary no matter what. (*Fixed may increase during news announcements. If that’s the case, a broker will warn about it).
Additionally, variable spreads go wild during news time. Biggest suckers (sorry…) come to trade with variable spreads during news releases. Ever seen a spread 40 pips wide? Yes, that’s what you may pay one day for opening a position during news time if you trade with variable spreads. (*At times fixed spreads may surprise in the same way. Be warned.)
If you go with a broker whose spreads are variable, you’re signing a contract to take “whatever is offered to you” at the moment of opening a position… This “whatever” can be very different from what’s been advertised. On the top of that you’re signing in for an additional headache of looking at spreads EVERY TIME you open a new position.
Although the spread cost itself seem to be quite a small fee comparing to the profits one plans to make, spreads add up very quickly, so quickly that for many intra-day traders it may become a determinant of profitable or unprofitable trading performance. Try to calculate how much you’ll pay in the spread cost each month.
But don’t run so happily now towards fixed spreads… Fixed spreads, you won’t believe it… can also widen. This warning is written on every broker website where you have fixed spreads. Every serious shakeout in the market: news, economic shifts other global events will immediately cause fixed spreads to expand, unless a broker promises to never widen a spread. It is your duty to check the spread before you enter with it.
ECN brokers provide the lowest variable spreads, which is the best deal, yet there is a commission cost to be paid on top. STP brokers can also offer variable spreads, but you have to monitor the spreads closer than ever. Market makers can offer variable spreads - here you have to be very cautions and look at spreads before you jump in each trade. Fixed spreads are common among Market makers and STP brokers, who get quotes from larger market makers: fixed spreads are usually wider than variable, but in the long run may actually be equal in the cost as they remain stable most of the time.
** Forex Dark Lord **
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Hi there, thanks for your site and information.
I have a question: Do you think Forex brokers lose money when you make profits? If they do it means they have a great incentive to make you not having profits.
Hi,
It is simple when we talk about ECN brokers - they don’t want you to lose, because they make money on spreads and commissions.
It is a bit complicated when we talk about Retail brokers - market makers.
Ideally they should also be earning profits only on spreads, while every position they take against you (they do it to artificially create a market for you: when you Sell, they become Buyers, when you Buy, they sell it to you) should be further hedged with other financial institutions, so that the net total is zero — this way they will eliminate any risks, won’t care whether you earn or lose, they’ll earn their money on spreads.
…However it is believed that Retail brokers may also leave a trade against you without offsetting it (in this case broker wants you to lose). They could do so if they know what kind of trader you are — beginner or experienced — then if you are a beginner, market makers can trade against you playing the odds that majority of beginners lose, especially if it is your first live account.
Additionally, if a broker doesn’t have any interest in seeing you lose, they, I believe, would benefit from including in Customer Agreement the following message suggested by NFA:
“…ALTHOUGH [MEMBER] IS THE COUNTERPARTY TO EACH OF YOUR TRADES, [MEMBER] LIMITS RISK TO ITSELF BY INSTANTANEOUSLY OFFSETTING THE TRADES AND POSITIONS IT ENTERS INTO WITH YOU WITH A BANK OR INSTITUTIONAL MARKET MAKER. AS A RESULT, [MEMBER] DOES NOT PROFIT WHEN YOU LOSE MONEY ON A TRADE. RATHER, [MEMBER] EARNS COMMISSIONS ON EACH TRADE IT ENTERS INTO WITH YOU.”
http://www.nfa.futures.org/news/newsNotice.asp?ArticleID=2104
hi,i have read and understand some major thing in forex market pls can u send me names of a reliable broker.thanks
You have a good question, but I’ll let it be open. I don’t want to influence anyone’s choice as much as I don’t want to favor any Forex broker. Sorry.
To help you start somewhere here is a website: http://www.100forexbrokers.com/
The cost of trading is something I am spending a great deal of time trying to figure out.
Fixed vs. variable I’ve got down. It is the commission + spread that has me intriqued. Both IB and Tradestation securities offer this method. It would seem that at larger trade sizes, 100k say, commission + spread would be cheaper. What say you?
Eventually, it will all boil down to the lot size you want to trade and frequency of trading. You’d simply need to calculate expenses for tight spread+commission trading and compare them to trading with, say, fixed spreads and no commission.
For example, if I know that I’m trading daily charts and on average enter once or twice per week, but afterward I may hold to a position for several weeks with no additional entries, I can calculate the average number of trades per month and the cost of trading in spreads and commission.
All-in-all you should have an outstanding trading strategy to be comfortable with trading 100k, plus it would require decent account size to cover up the risks.
do you know who offers the best spreads on the Euro Australian set and JPY australian set
Well, I can give you the same old link to brokers website, where you can scan in and out :) the Forex spread comparison table
First thing to ask is if the broker will be open. There are a number of brokers that go under due to capitalization issues. And since forex is OTC(not regulated you could run into some issues). If you are only looking into a broker for the lowest spread you are asking for issues. Check the broker at http://www.nfa.futures.org/basicnet/.
In order to meet NFA and belong they must meet specific capital requirements. The only two I recommend are FXCM and Tradestation.