When you start currency trading, you are told by every forex broker that there are no commissions involved in forex trading. New traders take their brokers words as true and most think that the cost of trading is minimal.
Forex brokers are also called FCMs (Futures Commission Merchants) sometimes. They make profits through the bid/offer spread they charge their clients for each currency pair. This bid/offer spread is your trading cost and profit for your broker.
Lets take a practical example to make it clear how trading costs can effect your trading. Bid/offer spreads are usually overlooked by retail traders as the price they have to pay for trading. So lets calculate what your cost of trading can be annually.
Suppose you are a day trader. You trade 5 times a day. Taking away the weekends, when you cant trade, there are 250 trading days.
As a day trader, you open and close your position before the end of the day. That means each position is traded 2 times.
Suppose; your start with an account size of $50,000. You are using a leverage of 4 only, you are cautious. So this $50,000 deposit will control (50,000) (4) = $200,000 for you.
Your Annual Turnover will be; (5) (250)(2)(200,000)= $500 M. Huge! Now lets calculate how much your broker will make and what your spread cost is. Spread Cost= (Annual Turnover) (spread)/2.
Suppose the spread offered by the broker is 3 pips. 3 Pips Spread Cost= (500M) (0.0003)/2= $75,000.
Suppose the bid/offer spread charged by the broker is only 2 pips. 2 Pips Spread Cost= (500M) (0.0002)/2= $50,000.
You can see yourself, the cost of trading with a 3 pips spread versus a 2 pips is $25,000. This is 50% of your account equity. You see, a 1 pip difference can result in $25,000 more as trading cost for you.
You will have to make a profit of $75,000 simply to break even. Trading costs are one of the reasons most active traders fail in the long run. - 22871
Forex brokers are also called FCMs (Futures Commission Merchants) sometimes. They make profits through the bid/offer spread they charge their clients for each currency pair. This bid/offer spread is your trading cost and profit for your broker.
Lets take a practical example to make it clear how trading costs can effect your trading. Bid/offer spreads are usually overlooked by retail traders as the price they have to pay for trading. So lets calculate what your cost of trading can be annually.
Suppose you are a day trader. You trade 5 times a day. Taking away the weekends, when you cant trade, there are 250 trading days.
As a day trader, you open and close your position before the end of the day. That means each position is traded 2 times.
Suppose; your start with an account size of $50,000. You are using a leverage of 4 only, you are cautious. So this $50,000 deposit will control (50,000) (4) = $200,000 for you.
Your Annual Turnover will be; (5) (250)(2)(200,000)= $500 M. Huge! Now lets calculate how much your broker will make and what your spread cost is. Spread Cost= (Annual Turnover) (spread)/2.
Suppose the spread offered by the broker is 3 pips. 3 Pips Spread Cost= (500M) (0.0003)/2= $75,000.
Suppose the bid/offer spread charged by the broker is only 2 pips. 2 Pips Spread Cost= (500M) (0.0002)/2= $50,000.
You can see yourself, the cost of trading with a 3 pips spread versus a 2 pips is $25,000. This is 50% of your account equity. You see, a 1 pip difference can result in $25,000 more as trading cost for you.
You will have to make a profit of $75,000 simply to break even. Trading costs are one of the reasons most active traders fail in the long run. - 22871
About the Author:
Mr. Ahmad Hassam is a Harvard University Graduate. He is interested in day trading and swing trading stocks and currencies. Learn Forex Nitty Gritty. Read about Trend Forex System. Try Netpicks Forex Signal Service.
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