The difference between the bid and the ask price of a security or asset is known as a spread. In other words, the difference between bid and ask price is known as a spread.
In the forex markets investors trade one currency for another. Therefore, currencies are quoted in terms of their price in another currency. Currencies are always quoted in pairs (e.g. USD/EUR). The first currency is called the base currency and the second currency is called the counter or quote currency (base/quote). For example, if it took EUR1.20 to buy US$1, the expression USD/EUR would equal 1.2/1 or 1.2. The USD would be the base currency and the EUR would be the quote or counter currency.
Forex quotes are always provided with bid and ask prices, similar to what you see in the equity markets. The bid represents the price at which the forex market maker is willing to buy the base currency (USD in our example) in exchange for the counter currency (EUR). Conversely, the ask price is the price at which the forex market maker is willing to sell the base currency in exchange for the counter currency. Forex prices are always quoted using five numbers; so, for this example, let’s say we had a USD/EUR bid price of 120.00 and an ask of 120.05. Thus, the spread would be equal to 0.05, or $0.0005.
Why is Forex Spread important
When selecting a forex broker, one of the very important considerations should be the spread between the bid and ask price. This is the same as the buy and sell price.
Many brokers out there promise very low spreads, even less than 2 pips on some pairs. However, in reality, the truth about the spread can be somewhat different. Many brokers have slippage when executing an order. This is when your order is filled at a different price than when you clicked the execute button. The difference in the price will very often not be in your favour. This slippage can effectively mean a higher spread in real terms, possibly much higher.
What are the different kinds of spreads available
We have featured an exclusive article on the different kinds of forex spreads available and their pros and cons.