How to calculate Forex spread into trades | Bid Ask Prices
Have you ever had an open trade that has been stopped out before price actually reached your stop loss level.
Or maybe seen price reach your trade profit target level, but the trade never closed in profit?
How about this one, you set up a pending buy order at a key price level, the market does reach your price level on the chart but the trade never gets triggered.
You’re thinking to yourself, “What the hell is going on here?” You start blaming your broker or start cursing the market fueled with frustration and rage.
You’ve become aware that this is a recurring problem and you really start coming up with conspiracy theories about your broker and the market, thinking they are out to get you and they are making it as hard as possible to profit in Forex trading.
Well here is a big slap in the face, it’s not the market, it’s not the broker, it’s YOU!
What you are failing to do is factor in the market spread into your trade levels. A professional trader must always account for the spread otherwise you will experience these inconsistencies with trades not triggering or stops being triggered before they were hit.
In this article we are going discuss the difference between the BID and ASK price, cover what the market spread is and explain how you should factor in the spread to your trade levels to stop these mishaps.
The BID and ASK Prices
It is crucial as a professional trader that you understand the difference between the BID and ASK prices, failing to do so will mean you will no doubt make potentially costly mistakes when setting up your trades.
When you look at your trade order screen you will see two price quotes, the BID and ASK prices. Every time you place a trade these two price quotes come into play. It’s important you are fully aware how they will affect your trade order when you execute it.
The BID Price
The BID price is something that you will be very familiar with. The BID price is the price you see on the charts so if EURUSD was printing 1.3000 on your chart then the BID price is 1.3000.
The BID price is the price is what you deal with every time you press that sell button; because it’s the price your broker is willing to buy the currency off you. You’re ‘selling’ the currency to your broker at the BID price.
The ASK Price
The ASK price is where things get a little more complicated, the ASK price is responsible for causing those unexpected ‘glitches’ in your trade orders.
You don’t normally see the ASK price when you have your charts open, it’s only when you open your trade order window the ASK price pops up.
The ASK price is what your broker is willing to sell you the currency for, and it’s a completely different price than what you see on the charts. The ASK price is what you deal with every time the BUY button is pressed and it’s more expensive than the BID price you are looking at on the chart.
So ASK price is the price your broker is ‘asking’ for to buy the currency of them. The BID price may 1.3000 on the charts but your brokers ASK price may be something like 1.3003. This is where calculated Forex spread comes into play.
Calculate Forex Spread to Avoid Confusion
As a retail trader you need to have an account with a broker to be able to interact with the market, there is really no way around this, it’s just a fact of trading.
You might be thinking, “Oh how nice of these brokers to facilitate the means for us retail traders at home to be able to place trades on the global market. Thanks Mr Broker!”
Well if that’s what you thought then I am about to shatter the reputation you have with brokers.
Forex brokers are businesses; they provide a service with the objective of turning over a profit. So where are these profits coming from? Brokers don’t ASK you for a monthly fee to have an account open, how do they make money?
They make money through the market spread they’ve created.
The spread is the difference between the BID and the ASK prices. It’s all in the ASK price for them, every time you make a transaction that deals with the ASK price the broker makes money. Brokers LOVE high frequency traders which place lots of trades every day, because each of these transactions generates the broker profit, regardless whether the trader loses or wins the trade.
You can calculate the spread by subtracting the BID price from the ASK price. Spread = ASK – BID.
Forex has become exponentially popular in the last few years, with more and more Forex accounts being opened each day. This means more brokers, and that means more competitions between them. Brokers want you to have your trading account with them; they want to facilitate your trades and they will go to extreme lengths to get you as a customer.
Because the broker market has become extremely competitive, they are fighting each other for our business as a trader. This is good for us traders because this keeps their spread prices down. No one wants to have an account with a broker who charges expensive ASK prices, so thanks to the high demand trading is relatively cheap.
But we still need to know how to deal with the differences in BID and ASK prices when we place our trade order, even though most of the time the difference is only a few pips.
How to factor in the spread when placing a trade order
When placing orders, you need to remember two key rules. It’s important that you memorize these two rules because you will need to apply them every time you enter and exit a trade.
Read over them 3 times just to be sure or write them down on a sticky and place it on your trading monitor until you memorize them.
When you go long, you enter the market at the ASK price and exit the market at BID price.
When you go short, you enter the market at the BID price and exit at the ASK price.
Placing Long Trades
Say you wanted to set a pending order to go long when EUR/USD hits 1.3000 on the chart, you don’t simply place the pending order entry price at 1.3000. Remember the rule for long trades, you ‘enter the market at the ASK price’ because the ASK price what your broker is willing to sell you the currency for. Whenever you are the buyer – the ASK price is quoted.
This means when the market reaches 1.3000 you have to anticipate where the ASK price will be at that point in time.
If your broker’s spread is roughly 2 pips for EUR/USD, when the market reaches 1.3000 your broker is going to be ‘asking’ 1.3002.
So when the price on the chart reaches 1.3000 (this is the BID price), your broker will be willing to sell the currency for (1.3002 when the spread is 2 pips).
If you place your pending order with an entry price of 1.3000, your trade will not be triggered because your broker is not willing to sell you the currency for that price at that point in time. To be triggered in you would need to wait for the BID price to reach 1.2998, which at that point in time the broker’s ASK price will be 1.3000 and your trade will be filled.
So in order to be triggered in when the BID price reaches 1.3000 you need to add the market spread to this price and set your entry order at 1.3002.
Watch the small animation below for a visual example.
Setting Up A Long Entry
When you calculate Forex spread and add it to your buy order with the intention of entering the market when the charts hit 1.3000, you’re entry price is placed at 1.3002. When the market reaches 1.3000 you will be triggered into the trade.
Setting up stop loss and exit prices for long orders.
We need to refer back to the early statement.
When you go long, you enter the market at the ASK price and exit the market at BID price.
This makes setting stop losses and target levels really easy. You are exiting at the BID price, this is the price your broker is willing to buy the currency back of you and they are only willing to pay the prices they can normally get from the Interbank Market.
When you exit the trade you sell the currency back to them. This uses the BID price.
The BID price is what you see on the charts and there is no commission involved, so you simple set the stop and target levels directly off the BID prices you see on the charts. Easy!
Setting Up Short Trades
Thing are a little bit in reverse when you are dealing with selling transactions, so let’s refer back to the rule for selling…
Short trades = ‘Enter the market via BID price, exit via the ASK price’
When dealing with short trade orders, things have to be worked the other way around.
Short trades enter the market via the BID price, so whatever price is on the chart you want to short from you simply use that price in your short entry order.
However, with the stop loss and target prices on short trade we need to calculate Forex spread and factor it in, because we are going to be exiting the trade via the ASK price. The ASK price is more expensive than the market BID price because of the brokers commission.
Just like when dealing with the ASK price in your buy entry orders, you simply need to add the market spread onto your stop loss and target prices for your short orders.
Take a look at this short animation below for a visual demonstration.
Setting Up A Short Stop Loss
You can see from the animation above how the broker’s ASK price can stop you out of your trade before the chart price (BID) hits your stop loss. Technically your stop was hit, because you exit at the ASK price, it’s just that the ASK price is not normally shown on your typical candlestick chart.
To avoid your trades from being stopped out earlier than expected, do the right thing, calculate Forex spread and add it onto your stop loss value. Doing so will allow your trade to freely move all the way to its stop loss level before the actual stop is triggered.
In the animation above, we wanted to be stopped out if the BID price entered 1.3100, so we added the market spread and placed our stop loss order at 1.3102. We knew when the BID price was 1.3100 the ASK price would be 1.3102 and we were taken out of the trade at the correct level.
Don’t forget you must calculate Forex spread and also apply it to your short order target levels. You are exiting at the ASK price. So find your desired target price on the charts, add the market spread to that price and use that in your target price level for every short trade order.
Now you know how to correctly place trade orders and enter a Forex trade the right way. You won’t be exploding with rage because your pending get triggered, and your trades exit at the intended price levels.
Learn more Forex Trading Tips n Tricks
Each broker is also different with spread charges, it’s important you choose the right broker for your trading.
Our Price Action Protocol trading system uses logical stop loss levels. This means stop loss prices are set at a point where we know if the market crosses, the trade didn’t work out and we want to be automatically exited out of the trade.
We don’t want to be taken out of trades too early due to lack of consideration for the market spread, so it’s very important that we always apply the rules that we’ve discussed in this article.