Spreads & Margins

Trading online foreign exchange (forex) is in some ways similar to trading stocks, futures or bonds. A forex trader will buy, or take a long position in a currency pair that has the potential of appreciation, and he or she profits when that currency pair actually appreciates in value, and the long position is liquidated.

Conversely, a trader will sell, or take a short position in a currency pair that has the potential of depreciation, and he or she profits when that currency pair actually depreciates in value, and the short position is covered.

Two important variables in forex that a trader should pay attention to are spreads and margins.

Spreads

The spread is the difference between the bid price and the ask price of a currency pair quoted by the dealer, and is usually expressed in pips¹

Margins

The margin is the amount of deposit, usually expressed as a percentage of the contract value, required by the dealer to open and maintain a position in the forex market.

¹ A pip is the smallest incremental change in value for a currency pair. However, with the introduction of fractional pip pricing, this definition may have to be modified. A pip is generally the smallest change of the 4th decimal place value for currency pairs except Japanese Yen crosses, where it is the smallest change of the 2nd decimal place