Fixed Spread and Variable Spread - What Type is Better?

An important consideration when looking for a potential Forex broker is the type of spreads they provide. Here's a brief overview of fixed and variable spreads and techniques you can use to select the better choice depending on your trading style.

Before you can commence a business in trading foreign currencies, it is important to comprehend how various Forex brokers price their spreads; that is, the variation between the bid price and ask price. Comprehending the distinction between fixed spread and variable spread can considerably reduce your trading costs. Therefore, this should be your major deciding factor when picking your preferred Forex broker. Here are a few pros and cons of each type

Fixed Spreads

In a fixed spread, the broker always guarantees that the spread will not change regardless of what is taking place in the market. For instance, a broker might inform you that their fixed spread for USD/JPY is three pips per trade. This implies that even when there is high volatility in the market, such as during major news announcements, or when the market is thinly traded, you are still able to enter a trade and pay them three pips on that currency pair.

Using fixed spread to trade is cost effective, especially when you are trading in volatile market conditions when the interbank spreads tend to widen. Fixed spreads allow you to organize better your trades irrespective of the unforeseeable events at the market place that most of the times inflate the transaction costs. On the contrary, when you trade using fixed spreads, you are likely to increase your transaction costs when you are in a market with low liquidity.

Variable Spreads

A variable spread tends to fluctuate in a range depending on the market conditions; that is, it would be low sometimes and high at other times. When the liquidity in a market increases, such as the overlap between the London and New York sessions, variable spread increases. And, during low market times, such as at 6 p.m. eastern time [ET], when New York is closed and Asia is not yet fully opened, the difference between the bid price and ask price decreases. Therefore, this makes your trading through variable spreads less expensive on the whole.

Worth mentioning, trading variable spreads come with the risk of fluctuating market conditions that can widen them almost instantly. For instance, during low market conditions, the spread for the above-mentioned USD/JPY pair can be lower than three pips, maybe two pips, which makes for less expensive trading costs that is always advantageous. Conversely, during times of important news releases, variable spreads increases as the quantity of orders reduces in the marketplace.

As an example, during the monthly release of the U.S. Non-Farm Payroll data, you can observe that the EURO/USD pair has a spread of ten pips. Therefore, this makes variable spreads difficult to trade with especially when you want to trade during unpredictable market conditions, as it would mean incurring more transaction costs.

Conclusion

While it can be difficult to choose between fixed spreads and variable spreads, the choice you make will rely on your trading style, risk appetite, ability to react favorably in very liquid market conditions, and, ultimately, the speed at which you are able to effectively place orders in your trading station. Nonetheless, it is advisable you use fixed spread if you like to trade during swift market activity, particularly when there is an overlap of two trading sessions or during the release of vital fundamental data.

Therefore, you should use fixed spreads when scalping. And, it is advisable you use variable spread if you are a long-term trader who do not like trading during the release of important economic news and data.