Unlike stock brokers, forex brokers do not charge a set fee for their services. Instead they earn money from their clients in a different manner. For their services the foreign exchange broker will charge an additional spread on the trader’s trade. This spread acts as their form of commission and their earnings. There are several ways whereby this spread can be charged and it is important you understand each one.
The forex broker spread
There are various considerations to make when searching for a forex broker and the spread is one of them. This spread is calculated when you subtract a trade sell price from the buy price. Of course, these prices are never the same causing the size of the spread to vary. This only prompts the broker to assist in achieving more profitable trades. A greater profit for the trader will mean a larger spread for the broker.
The spread percentage
One method a broker can use to charge a spread is via a spread percentage. While this is not a method many retail traders will encounter, it is one technique to be noted. The spread percentage is used when a forex broker charges a low commission on an extremely large trade. It is only when there are many lots being traded that a broker will make money using this method. This is generally why the spread percentage is directed at financial corporations and hedge funds.
The variable spread
The most well-known and frequently encountered means of charging a spread is the variable spread method. This method presents with varying spreads which are related to the current foreign exchange market conditions. For example, if the market condition shows high liquidity then the spreads will be tight. If there is a sudden change in market movements then the spreads will widen allowing the forex broker to make an optimal profit. Due to the market’s instability there is no accurate means to determine the variable spread’s amount making the broker’s earnings uncertain. This method of charging is available to both retail traders and larger financial institutions.
The fixed spread
One method that retail brokers charge spreads is through fixed spreads. The fixed spread is a set amount that, unlike the variable spread, does not change irrespective of the market condition. If there is a high fluctuation in currencies, the spread will remain constant. It is important you find out whether a forex broker is working on a fixed spread before opening an account with them as this can be very costly.
Forex brokers spreads and trading
The spreads you receive can affect the way you trade and resulting profits greatly. If you are utilising a short-term strategy then you should use tight fixed spreads. A fixed spread offers consistency and allows you to use your trading strategy at any time. This is an ideal situation for any short-term trader. There are certain forex brokers who allow the trader to trader with a spread, however this is an advanced trading strategy and not recommended for beginners. It is also difficult to locate a brokerage who will offer this service.