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This article will discuss the top forex spread trading strategies and key tips traders should use to avoid a wider spread.
The forex spread refers to the difference between the ask (sell), and the bid (buy). We will discuss how the spread can change depending on many factors.
Spread is the main cost of forex trading and traders should be what is a Forex spread and how does it work aware of it. Spreads that are larger will result in higher trading costs.
A forex trader could be facing volatility and illiquid currency pairs, along with leverage. It is beneficial to use very little leverage as compared to your account equity.
Spreads are a concern for beginners traders. If your account is small and you take a position that is slightly larger than your account, the spread may widen and you could receive a margin call or even your position could be closed.
These three spread trading strategies and techniques are great for learning the basics of FX trading.
Traders should be aware that spread spreads can have large spread costs.
Volatility: A spread of news events or economic data could cause volatility in the market.
Liquidity. A lack of liquidity on the market can also lead to a spread that widens. Two interconnected concepts are liquidity and volatility. High spreads are a hallmark of illiquid currency pairs such as emerging market currencies. Volatility can also result from inliquid markets.
Spreads and news: Liquidity providers may increase their spreads in order to compensate for some of the risk associated with a news event such as the NFP job number release.
Spreads will usually revert back to their mean within a Forex signal provider few minutes. Therefore, traders should be patient and only trade when they narrow.
A high liquidity pair of forex pairs is another forex spread trading strategy that many traders, especially beginners, adopt. Spreads for high liquidity pairs are usually lower than in normal circumstances.
Because they trade in large volumes, your major currency pairs, EUR/USD (Euro Dollar), US/JPY/Dollar Yuen), GBP/USD/Pound Dollar and USD/CHF/Dollar Swiss Franc will have the lowest spread of all currency pairs.
These currencies trade at lower spreads than others because of volatility, liquidity, and news that can cause widening spreads.
The spreads for emerging market currencies, such as the USD/MXN/Mexican Peso, USD/ZAR/US Dollar/South African Rand or the USD/RUB/US Dollar/Russian Ruble, are generally higher than those of your major currency pairs. These pairs are best traded with low leverage or no leverage.
The spread of certain currencies can be seen in the image below. The spread of the major market currencies, the USD/ and EUR/USD are narrow at 0.7 pip and 0.6% respectively.
The spreads of emerging market currencies, the USD/ZAR, and the USD/RUB, are extremely wide at 90 pips each.
Forex spreads can be affected by the time of day. It is worth considering this when planning your strategy. Forex spreads will be at their lowest during major market trading sessions (London, New York, Sydney, Tokyo) due to high volumes being traded.
These times are ideal for forex traders who want to trade at narrower spreads. Spreads may become narrower when New York and London sessions overlap.
These hours are Eastern Time. The New York and London sessions overlap between 8am and 11pm Eastern Time.
There are many factors that can influence the best day to trade forex.
Spread trading can be reduced if you use all of the above spread trading strategies. These steps should be remembered when you execute a trade or close a trade. The spread can change between when you open a position and when you want it to close.
Let's take a look at an example that uses the USD/JPY. This is one of the most popular currency pairs, meaning it has very high liquidity and spreads relative to other forex pairs.
Pay attention to factors that could affect spread
We need to ensure that there are no data releases or shock-events that could impact the spread of USD/JPY if we trade it. This can be done by staying up-to-date with the most recent news, and using an economics calendar.
Below is a sample of the economic calendar. Events that have a high impact are more likely to increase spread. It is therefore a good idea to trade around events with high potential.
There are some events that could increase volatility and spread volatility.
CPI (inflation data)
NFP (nonfarm payrolls).
Time of day trading
It is also important to think about when you can trade USD/JPY as the USD/JPY currency has high volatility. The best time to trade forex is generally between 8am and 11.am eastern, when the New York and London sessions overlap. Also, the USD/JPY is very liquid during the Tokyo session.
Spreads can be very large when emerging market currencies trade outside of their main market hours. You should trade emerging market currencies during their main market hours, when they are the most liquid.
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