Spread in Trading: Fundamental Concept and Its Impact on Your Trading

The spread in trading is one of the most critical elements that every trader must understand to optimize their results. This price difference constitutes the fee mechanism on trading platforms, so its direct management impacts the final profitability of any position we execute. In this analysis, we will delve into the structure of the spread, the elements that determine it, and how to evaluate it correctly when selecting a broker.

What is the Spread in Trading?

The spread represents the price gap between the buy quote (Ask) and the sell quote (Bid). This differential is not arbitrary but responds to specific market variables and the characteristics of the traded asset.

Unlike traditional financial institutions that charge explicit percentages, brokers incorporate their profits directly into the spread, turning it into an implicit fee formula. When we place an order, the commission calculation is already embedded in the buy-sell process, with no need for additional explicit payments.

Types of Spread: Floating and Fixed

In current markets, two spread modalities coexist:

Floating Spreads: They vary constantly according to market conditions. They adapt in real-time to volatility, liquidity, and trading volume, allowing providers to offer dynamic quotes that reflect the instant economic reality.

Fixed Spreads: They maintain constant values regardless of market fluctuations, although they can widen significantly during extreme volatility or lack of liquidity. Traders opting for this modality know their costs in advance.

In CFD trading, floating spreads predominate thanks to technological advances that allow platforms to access real-time market information and apply competitive rates at any moment.

Spread Calculation Mechanism

Calculating the spread is very simple: just determine the arithmetic difference between the Ask price (at which we buy) and the Bid price (at which we sell).

Practical Forex example:

If the EUR/USD pair quotes with a Bid of 1.05656 and an Ask of 1.05669:

Spread = 1.05669 – 1.05656 = 0.00013

In terms of pips (the minimum unit of currency variation, equivalent to the fourth decimal), this spread would be 1.3 pips.

Application in stock markets:

In stock trading, we use the unit called “tick” instead of pip, which represents the minimum price variation. For U.S. stocks, one tick equals $0.01.

If a stock like Microsoft quotes with a Bid of $329.61 and an Ask of $330.33:

Spread = $330.33 – $329.61 = $0.72 (equivalent to 72 ticks)

Impact of the Spread on Your Profitability

The spread constitutes an inherent cost of any operation, so its impact on the final result is direct and measurable:

• Inverse relationship with profits: High spreads erode profit potential. A narrow differential, on the other hand, significantly improves the risk-reward ratio.

• Variability between platforms: Each broker applies different spreads on the same assets. Conducting a prior comparative analysis is essential to select the most convenient provider.

• Integrated vs. hidden costs: Some brokers promote minimal spreads but apply multiple additional fees (fund withdrawal, currency exchange, account maintenance, etc.). It is crucial to evaluate the total cost structure, not just the published spread.

• Need for sufficient profitability: The spread should not be considered in isolation. It must be included in the overall operational cost calculation to determine if the expected price movement allows for significant net gains.

Factors Determining the Spread Width

( Asset Volatility

Markets with high volatility present wider spreads as compensation for greater risk. Assets with low deviations offer tighter spreads. This principle explains why cryptocurrencies and stock securities often show wider spreads compared to lower-fluctuation money markets.

) Liquidity Depth

An asset with considerable trading volume reduces its spreads significantly. Conversely, instruments with low daily movement have wider gaps.

In Forex, the EUR/USD pair with enormous market depth offers very compressed spreads. More exotic pairs like NZD/CAD have considerably larger spreads.

In equities, stocks of large tech companies where hundreds of millions are traded daily maintain narrow spreads, while low-volume stocks show significant differences.

Macroeconomic Events and Impact News

Relevant economic announcements, central bank decisions, or geopolitical events generate temporary spikes in spreads, significantly widening the gaps above their usual levels. During the invasion of Ukraine, for example, spreads of pairs including the ruble surged dramatically.

Differences in Spread Calculation: Forex vs. Stock Market

The basic concept is identical, but the measurement unit varies depending on the market:

In Forex: We use “pips” ###variations in the fourth decimal for currency pairs###. A spread of 1.3 pips represents a minimal but quantifiable difference.

In Stocks: We use “ticks” (the minimum variation according to the asset’s price). For U.S. stocks, each tick = $0.01. A spread of 72 ticks is significantly larger in percentage terms.

Criteria for Choosing a Broker Based on Spreads

When selecting a trading platform, consider:

• Cost transparency: Choose brokers that apply only spreads without hidden additional commissions
• Regulation and security: Ensure the platform is under multiple regulatory oversight
• Asset variety: Access to over 200 instruments allows diversification
• Technological tools: Intuitive platforms with real-time analysis facilitate decision-making
• Leverage available: Check if it aligns with your trading strategy
• Protections: Look for negative balance protection and effective stop-loss features
• Specific assets: Evaluate particular spreads on the instruments you plan to trade most frequently

Trading Strategies Based on Spreads

It is important to clarify that spread trading strategies are only applicable with financial options, not with regular CFDs. Options provide the right (not the obligation) to buy or sell at a predetermined price on a future date.

Vertical Spreads: Combine buying and selling options with the same expiration but different strikes, limiting both risk and potential gain.

Horizontal Spreads: Use the same strike with different expiration dates, exploiting temporal differences.

Diagonal Spreads: Combine variations in both dimensions (strike and expiration), offering operational flexibility.

Conclusion

Mastering the concept of spread in trading is absolutely essential for any trader, whether in Forex, CFDs, or options. Its simple calculation contrasts with its critical importance: even small differences in spreads generate significant impacts on accumulated profitability.

The key is to select platforms that combine total cost transparency, competitive spreads on your preferred assets, and technological tools that facilitate analysis and execution. Incorporate spread analysis into your overall operational cost assessment and never consider it in isolation. With this solid understanding, you will be better positioned to optimize your results in global markets.