May 1, 2021


Defining a forex spread

A spread is an essential element in forex trading, and every trader must understand how it works. It involved two prices that we call the bid price and ask price. A forex broker will give you a quote about these two separately for a currency pair. When we say bid price, we refer to a price that one can sell the base currency. The ask price refers to the price to purchase the base currency. If we subtract these two, the difference is what we call the spread. A spread is also known as the bid-ask spread.

 Tell me more about the forex spread!

Sometimes, the forex broker earns through a bid-ask spread by putting markup in the buy and sell price of the currency pair that a trader prefers. We can use any other business as an analogy with the way forex brokers earn money. The forex broker makes money by providing his products or services.

Let us think about the currency pair that you want to buy as their product. The forex broker makes money by selling this currency pair by selling it more than the amount that they paid for it. In another scenario, let us assume that you are the one selling the currency pair. They will buy it from you at $10, but they sell it later on for $12. If we subtract $10 and $12, the difference will be $2, and $2 is what we call the spread in this scenario.

So, if you are too new in trading, you might fall into a forex broker’s sweet words saying that they charge no commissions because, for most circumstances, it is simply not true since they make money by the spread. It is a misleading idea because even when it is true that there is no separate commission fee, you still technically pay, and it is already together in the bid-ask spread.

How does one measure a forex spread?

One can measure a forex spread by using pips. The smallest possible unit of a currency pair’s price movement is teh pip. Usually, a currency pair’s one pip is equal to 0.0001. It holds the fourth place to the left of the decimal point. Only the Japanese Yen’s pip is placed two decimal places after the decimal point (0.01). The pip also moves on the third place after the decimal point if there is a fractional pip.

 For example, a change of one pip in a EUR/ USD pair is 1.1234/ 1.1235. Let us break down all the elements:

  • Base currency = EUR
  • Quote currency = USD
  • Bid price = 1.1234
  • Ask price = 1.1235
  • Spread: 1.1235 – 1.1234 = 0.0001 (spread of 1 pip)
  • Pip = 1 change of a pip

Let us also cite an example of a Japanese Yen pip where the currency pair USD/ JPY is at 110.00/ 110.02.

  • Base currency = USD
  • Quote currency = JPY
  • Bid price = 11.00
  • Ask price = 11.02
  • Spread: 11.02 – 11.00 = 0.02 (spread of 2 pips)
  • Pip = 2 change of pips

To cap it off

A forex broker’s spread may be different from another forex broker. Forex brokers from other trading platforms have different ways and styles on the way they earn their money.

People have devised more than one way to be successful in trading. A few of these ways are market analyses. A market analysis helps develop trading ideas that they can use to make the right move and go home with hefty profits.

The three types of market analysis

There are generally three kinds of market analysis, and we have listed them in the enumeration below:

  • Technical analysis
  • Fundamental analysis
  • Sentiment analysis

Today, we will tackle the second one, which is the fundamental analysis that tackles social, economic, and political topics.

What is fundamental analysis?

Fundamental analysis is a study of economic data, news reports, and news headlines that affect a price and its direction. Today, there is the massive and comprehensive use of advanced technology like computers, handheld phones, electronic devices, and the internet. Due to this fact, social media ad people can also impact the prices and currency pairs that we trade. Even some of the world’s leaders make remarks and comments about anything under the sun that can massively impact the price direction of a particular currency.

The forex market can be massively affected by economic, social, and political matters. People, especially traders, are monitoring these elements since these can affect the way we trade.

Economics and forex trading

In economics, the main focus is supply and demand as it determines the price. In forex trading, we also look at the angle of supply and demand since it can also determine the exchange rate. If we know which direction the supply and demand go, we will also see where the price heads.

But the question is: how do we know the direction of supply and demand? There are a lot of factors that may determine the status of different economies. Some of these factors include certain events like unemployment and recession. If a country experiences a recession, then the economy is affected. It is like a domino effect since the monetary policy will also get involved, then, later on, this country’s currency demand will also get affected.

So, we can conclude that if a country’s current and the future economic state looks like it is going well, then the currency will also be strong. If the current and future economy is looking at recessions and other problems, then there will be less demand for the currency, making it weak. As a country’s economy strengthens, it is automatic that more foreigners will be interested in investing with them. So, these foreigners will need to buy more of that country’s currency to have the items they want to support.

To summarize fundamental analysis

If a country’s economy is going well, it may need to raise its interest rates to control inflation. Higher interest rates mean more attraction for that country’s financial assets. Traders and investors need to buy the country’s currency first to get these assets. The country’s currency becomes in demand and will be more robust than the others with lesser demand. Fundamental analysis studies these angles in trading. Trading is not just prediction and pure luck. A good trading decision has a solid basis.