Lesson 2: What is a Spread in Trading? – A Complete Guide

What is a Spread?

A spread is the difference between the bid price (the price at which you sell an asset) and the ask price (the price at which you buy an asset). It is a key cost in trading, especially in markets like forex, stocks, and commodities. Brokers use spreads as a way to earn profits without charging commissions directly.

How Does a Spread Work?

When you open a trade, the spread is the first cost you incur.

• Bid Price: The price at which the broker will buy the asset from you.

• Ask Price: The price at which the broker will sell the asset to you.

• Spread: The difference between these two prices.

Example: If the bid price of EUR/USD is 1.1000 and the ask price is 1.1002, the spread is 2 pips (0.0002).

Types of Spreads

Fixed Spreads

A fixed spread remains constant, regardless of market volatility or conditions.

Advantages:

• Predictable trading costs.

• Ideal for beginner traders.

Disadvantages:

• May be slightly wider compared to variable spreads during calm market conditions.

H3: Variable Spreads

A variable spread fluctuates depending on market conditions, such as volatility and liquidity.

Advantages:

• Tighter spreads during calm, liquid markets.

• Can lower costs for traders during stable periods.

Disadvantages:

• Spreads can widen significantly during high volatility (e.g., major news events).

Fixed vs. Variable Spreads – A Comparison

Feature	Fixed Spreads	Variable Spreads
Cost Stability	Consistent trading costs	Costs vary with market conditions
Market Conditions	Unaffected by volatility	Widen during volatile periods
Best For	Beginners or low-volume traders	Experienced traders, scalpers
Example Broker	Brokers with market-maker models	ECN/STP brokers offering direct market access

Why Do Spreads Matter?

Spreads are a core trading cost that directly impacts your profitability.

Impact of Spreads on Trading:

1. Tighter Spreads: Lower costs per trade, which is ideal for scalping and frequent trading.

2. Wider Spreads: Higher costs, which can reduce profits, especially for short-term strategies.

How to Calculate Spread Costs

To calculate the spread cost, multiply the spread (in pips) by the value per pip.

Formula: Spread Cost = Spread (pips) × Pip Value × Trade Size

Example:

• Spread: 2 pips (EUR/USD)

• Pip Value: $10 per pip (on 1 lot = 100,000 units)

• Total Cost: 2 pips × $10 = $20

This cost is applied when opening the trade and factored into the trade's breakeven point.

Tips to Minimize Spread Costs

1. Trade Major Pairs: Major currency pairs like EUR/USD have the tightest spreads due to high liquidity.

2. Avoid Trading During Volatility: Spreads widen significantly during economic news releases or low-liquidity hours.

3. Choose ECN or STP Brokers: These brokers offer tighter variable spreads by connecting you directly to the market.

4. Compare Broker Spreads: Regularly compare spreads offered by brokers to find the most competitive rates.

Learn More About Spread in Trading

Q1: What is a spread in trading?

A spread is the difference between the bid price and the ask price of an asset, representing a key trading cost.

Q2: What is the difference between fixed and variable spreads?

Fixed spreads remain constant, while variable spreads fluctuate depending on market conditions.

Q3: How can I calculate spread costs?

Multiply the spread (in pips) by the pip value and trade size to determine the total cost.

Q4: Why do spreads widen during volatility?

During volatile or illiquid market conditions, brokers increase spreads to manage risk.

Q5: How can I reduce my spread costs?

Trade during high liquidity periods, choose major pairs, and use brokers with tight spreads.