Spreads and Slippage: Real Costs to Trading
(eToro Blog) Before you ever open your first trade, one of the things you should do is determine what the costs will be to you and your bottom line. Many factors need to be considered, not the least of which is your potential broker as fees can and do certainly vary. In general, a trader could incur outright costs for personal expenses (trading books, lessons, etc.) or broker-based commissions and spreads and to a lesser extent, platform fees. One less obvious but very real cost to any trader is known as slippage and though it may be an infrequent occurrence it can hurt when it happens to you.
Commissions are payments to your broker generally determined as a percentage of your trade size and different trade sizes may incur different commissions, often referred to as tiers.
The spread is the difference, expressed in pips, between the broker’s buy and sell prices for any given commodity, share of stock or currency pair. A broker will list both the buy and sell price of the instrument and you can readily determine the spread; a complete list of spreads can usually be found on the broker’s FAQ page. In general, the greater the interest or popularity in the instrument the smaller the spread might be; for example, on OpenBook, the spread is 3 pips for a EUR/USD position but only 2 pips for a USD/JPY, while it is 9 pips for EUR/CAD.
Platform fees (if any) will vary from broker to broker, with some brokers still charging a fee for the use of their trading platform while a majority of brokers offer that service for free.
Slippage occurs when the price of an instrument changes from the moment you put in the order to buy or sell to the moment when the order was executed. It can occur upon opening a position as well as upon the position’s close. For example, say you closed out a long position in the EUR/USD pair at 1.2924 but by the time the trade was actually executed the price had dropped to 1.2922 then you’ve experienced slippage of 2 pips – and depending on the spread that might make the difference between a gain and a loss. Of course, slippage can also work in your favor. Whether or not slippage occurs depends on many factors, not the least of which is the pair’s volatility and the execution of large market orders.
Once you’ve become engrossed in forex trading, celebrating the rallies and lamenting the routs, it’s easy to forget that there is ultimately a price to pay for all that fun and excitement but those costs can add up in the long run. It’s important to remember that what you’re trying to get out of trading is a profit, and the fun and excitement of it is just a perk.
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