Spread calculation
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Definition of spread
A spread corresponds to the difference between the best buy price (ask) and the best selling price (bid) offered on the asset order book. This is the price at which you can buy or sell an asset with a market order.The bid price (maximum price at which a seller is willing to sell the asset) is always higher than the ask price (maximum price at which a buyer is willing to buy the asset).
Spreads in practice
The size of the spread is generally expressed in points, except in Forex where we speak in terms of pips.
Let us take the example of an asset whose bid/ask is as follows:98.30 / 98.35.
98.30 is the price at which you can sell the asset
98.35 is the price at which you can buy the asset
To calculate the spread, simply subtract the bid price from the ask price. In this case, the spread is 0.05 point (98.35-98.30)
When you take a position on an asset, you therefore inevitably lose the spread amount. If we take our example again, the price must rise by 0.05 points for your transaction to be zero.You pay the full spread when you take a position.
What factors influence the spread?
Two factors enter into account in the development of a spread:
Volatility
:The more volatile an asset is, the higher the spread.This is particularly the case during important economic announcements or periods of nervousness on the financial markets.On a volatile asset, the variations have a greater amplitude and are often erratic.Liquidity
: The more liquid an asset, the lower the spread.In fact, there are more buyers and sellers, which increases the number of transactions.With a liquid asset, transaction volumes are higher.For these reasons, not all assets have the same spread. An asset’s spread constantly changes depending on these two factors.
Spreads: a means of remuneration
There is a spread on all asset types.It enables certain brokers to remunerate themselves, notably on the Forex, commodities and derivatives markets. Indeed, on these markets, the broker can widen the spread on the products he offers to his clients.
In Forex, banks are liquidity providers for all brokers.They allow brokers to have access to the interbank market (where transactions take place), governed by the law of supply and demand.
To be remunerated, the forex broker will therefore widen the spread on each currency pair. Thus, if the EUR/USD quote 1.3001/1.3002 on the interbank market, the broker's clients will for example see the following quote on their trading platform:1.3000/1.3004.The difference between the price offered on the interbank market and on the trading platform is therefore up to the broker.That's his commission.He receives it on every transaction his clients make.
On the financial markets, brokers do not use the spread to remunerate themselves but charge their clients transaction fees (usually in % of the traded volume).
