A progressive mind constantly seeks ways to gain more financial freedom. As generations evolve and technology advances every single day, our lives become easier. Nothing seems impossible when we know how to effectively utilize the right tools that can play a significant role in achieving our goals. We are always looking for quicker and easier ways to make some extra money.

When we think of quick and efficient ways, Forex trading often comes to mind. Many of us want to get involved in it without fully understanding the basic concepts behind it. As a result, only 2% out of 100 achieve positive results.

Let me introduce the one concept: “Understanding Forex Spreads: How They Affect Your Trading Costs”.

What is a Spread?

The spread is the difference between the price at which you can buy a currency (the “ask” price) and the price at which you can sell it (the “bid” price). Every time you open a trade, you pay this difference.

Ask Price: The price at which you can buy the currency.
Bid Price: The price at which you can sell the currency.

Why Does It Matter?

The spread is how brokers make money. When you open a trade, the market price has already moved slightly against you because of the spread. You need the price to move in your favor just to break even before you can make a profit.

How It Affects Your Costs

A larger spread means higher costs for you because the price has to move more in your favor for you to make a profit.
A smaller spread means lower costs, making it easier for your trade to become profitable.

Example: How the Spread Affects Your Trading

Imagine the exchange rate between the Euro (EUR) and the US Dollar (USD) is 1.1500/1.1505. This means you can buy 1 Euro for 1.1505 USD or sell 1 Euro for 1.1500 USD. The difference between these two rates (0.0005) is the spread, which represents the broker’s fee for facilitating the trade.

Now, let’s say you decide to trade:

• You buy €10,000 at 1.1505 (the ask price), you pay $11,505 (10,000 × 1.1505).
• The market moves in your favor: The rate drops to 1.1000/1.1005, and you decide to sell.
• You sell €10,000 at 1.1000 (the bid price), you get $11,000.

Now let’s calculate your profit:

Without the Spread:

If there were no spread, you could have bought at 1.1500 and sold at 1.1000, giving you:

• $11,500 – $11,000 = $500 profit.

With the Spread:

Because of the 0.0005 spread, your actual cost of entering and exiting the trade is higher. You bought at 1.1505 and sold at 1.1000, reducing your profit to:

• $11,505 – $11,000 = -$505 loss.

Conclusion

This example shows how the spread directly affects your trading costs and profits. The wider the spread, the more it eats into your potential gains. Therefore, understanding spreads is crucial for effective risk management in Forex trading.