What is spread in Forex? Why does spread fluctuate at all times? Table of Contents

What is spread, Bid and Ask prices?

A spread is the difference between the buying price (the ask price) and selling price (the bid price) of a currency.

The bid price is always inferior to the ask price.

An ask rate is the buying price of the base currency.

A bid rate is the selling price of the base currency.

Every buy order is open at ASK price and closed at BID price, and every sell order is open on BID price and closed at ASK price. By default, you are only able to see the BID line on your chart. In order to see the ASK line, right click the particular chart -> Properties -> Common-> and tick the Show ASK line.

You can also see the average and minimum spread of each Forex currency pair in XM Official Website.

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For the list of all bonus promotions of XM, visit the page here.

How does Spread work?

First of all, if you’ve been to a trip overseas, remember the scene where you exchanged currency.

When exchanging Japanese JPY for US dollars, for example, 1 USD equals about 110.00 JPY, while at the same time, when converting US dollars to JPY, 1 USD equals to 108.00 JPY, etc.

Different exchange rates should always have been offered.

Let’s assume that you exchange 110 JPY for 1 USD and then return to JPY instantly (while the exchange rate does not change).

Then, although I paid 110.43 JPY in the process of “Japanese yen → US dollar”, 108.43 JPY was returned to me in the process of “US dollar → Japanese yen”, and 2 JPY disappeared somewhere.

This phenomenon is due to the difference in the rate applied to “Japanese Yen → US Dollar” and the rate applied to “US Dollar → Japanese Yen”, as I pointed out earlier.

This difference is called a spread and corresponds to the fee income of a financial institution that supports foreign currency exchange.

In FX, the spread is the difference between the “Bid (sell price)” applied when selling a currency pair and the “Ask (buy price)” applied when buying a currency pair.

For example, the “Bid” of the US dollar/Japanese yen is 109.404 JPY , while the “Ask” is 109.407 JPY .

There was a spread of 2 JPY for foreign currency exchange, but it is only 0.3 JPY in the case of FX. If you buy USD/Japanese yen with a spread of 2 JPY, you will not be able to earn foreign exchange profit unless the JPY depreciates by more than 2 JPY in the exchange rate.

On the other hand, in the case of FX, profit is generated when the JPY depreciates by more than 0.3 JPY.

In this way, narrower spreads (smaller differences) make it easier to target profits.

Let’s take a more concrete example of how much the difference between the spread of 2 JPY and 0.3 JPY makes a difference.

For example, if you buy 10,000 US dollars, the currency exchange fee will be 20,000 JPY, while the FX only costs 30 JPY.

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Forex Spread is different by pairs

There are different spreads depending on currency pairs, such as USD/JPY 0.3 pips , euro/JPY 0.4 pips, British pound/JPY 0.7 pips, Swiss franc/yen 1.7 pips, South African rand/yen 1.8 pips.

This is because there are differences in procurement costs depending on the amount of currency distributed.

In addition to FX, there are financial products such as foreign currency deposits and foreign currency denominated MMFs (a type of investment trust) that can target foreign exchange gains, but the spread settings are different for each.

For example, a bank’s foreign currency deposits were set at 1 JPY in US dollars, 1.40 JPY in euros, 4 JPY in British pounds, and 90 JPY in Swiss francs.

Spreads are freely determined by financial institutions.

However, FX has always offered a very narrow spread compared to foreign currency deposits and foreign currency denominated MMFs.

There are also differences in spread settings depending on the Forex company.

Even if there is a slight difference in one currency unit, if you make a trade of a reasonable size with leverage, it will make a cost difference that can not be neglected.

At XM, they strive to always present the narrowest spread in the industry.

In other words, you can trade at a low transaction fee, so even if you buy and sell at the same price, you can increase profits compared to trading with a company with a wide spread.

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Why Forex spread changes constantly?

In addition, there are facts that we want to know about the difference in spreads.

That is, even if you trade the same currency pair with the same Forex company, the spread is not always constant.

XM provides a service called “over-the-counter FX” trades in the interbank market (market for financial institutions) according to the orders received from customers.

Here, spreads fluctuate with the rate due to market outlook and speculation of each financial institution.

Normally, the spreads offered to customers should change little by little.

However, because it is difficult to trade, FX companies that are currently adopting the “fixed principle” method are becoming the mainstream.

This is to fix the spread that the Forex company sets for each currency pair, in principle, except when special circumstances occur.

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When Forex spread gets wider than usual?

The first is when there is a large fluctuation in the foreign exchange market triggered by a phenomenon called “— shock”.

For example, what is new to our memory is that during the “Corona Shock” in the spring of 2020, the foreign exchange market was volatile and spreads were likely to widen.

It is new to us that each company had difficulty maintaining narrow spreads, and almost all FX companies stopped fixing the spread principle.

In addition, spreads are likely to widen before and after the announcement of important economic indicators such as US employment statistics, and when there is global news such as war.

Second, spreads widen when market liquidity declines.

For example, early morning trading hours.

Since there are few market participants in the early morning of market time, spreads may open from daytime.

Moreover, the spread is likely to widen even when the mood of investors (refrain from buying and selling) is increasing among investors, and the number of trading participants is decreasing and the trading volume is decreasing.

As the number of market participants decreases, the volume of distribution will decrease and the gap between “Bid” and “Ask” in the interbank market will increase.

As mentioned earlier, the narrower the spread, the easier it is to earn a foreign exchange gain.

However, although the spread is quite narrow, there are cases where some FX companies set a separate fee, and in that case, you should compare each cost burden with both eyes.

There are also cases where the spread is narrower than usual in a limited-time campaign.

Of course, if the timing of buying and selling goes past that period, the plan originally envisioned and the actual cost burden will change.

Furthermore, if you use an FX company that does not specify “fixed spread cost”, spreads can easily expand during periods when trading volume is low.

In case of XM, spreads are floating at all times, as all trading account types feature “variable” spread condition.

Visit the page here for the comparison of Forex spread and other conditions among XM’s trading account types.

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Quality of Spread and Order Execution

Although the spread is narrow, we’ve touched on a few points such as the fact that it is better to choose a “variable spread” FX company.

To add one more thing, it’s a good idea to carefully check the level of the market liquidity (the probability that a transaction will be completed at the rate you intended) along with the spread.

This is because even if the spread is narrow, if you do not fill the order easily, you may miss the perfect opportunity.

In other words, it is a fall at the end of the book, as it is called “slippage”.

XM is known for its high order execution rate, but as a measure for slippage, it is possible to set an allowable limit range for price fluctuations at the time of ordering.

If you are going to start forex trading, why not start with XM, which has all the triplets of “narrow spreads”, “high execution rate” and “high swap”?

XM not only offers many advantages on trading conditions, but also offer a number of bonuses which you can benefit from.

How to open a Forex trading account with XM?

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