Who makes profit in Forex?

November 23, 2013 at 8:23 pm

Let’s cover the basics.

During trading hours each currency pair at any given moment has two prices: Bid and Ask. The Bid is the price at which you can sell and the Ask is the price at which you can buy.

For example, the EURUSD pair might be quoted as 1.3501-1.3503 meaning that you can but it at 1.3503 and sell it at 1.3501. The difference between these prices is called spread. In this particular example the spread is 2 pips.

Why is there a spread? 

The spread is the commission charged by your broker for their services. So, the first profit is made by your broker once you open a trade. Well, the last profit is also made by your broker when you close your trade 🙂 It’s not that there anything wrong with it considering that your broker takes risks and provides you access to the market.

The size of the spread fluctuates during the day. It increases during volatile times when prices move fast and decreases in quiet markets. The average spread sizes also vary between different currencies and brokers, of course. The spread is your expense and it becomes a consideration once you look at different currency pairs. In some exotic currency pairs spreads can reach 15-20 pips.

Remember that spread is your expense! As soon as you open a position, your account is down for the size of the spread. The more transactions you do, the more spreads you have to pay. Therefore, the spread size should be one of considerations when you choose currency pairs to trade.

So, where is your profit?

As you probably already know, your profit lies in the difference in prices. If there is a good probability that the currency’s price is going to increase, you buy that currency. If the price does increase, you sell that currency and pocket the difference in price minus the spreads.

If you believe that the price of the currency is going to fall, you sell that currency. If your guess was correct, you purchase that currency at some later time and pocket the price difference minus the spreads.

The price difference then is multiplied by the lot size and becomes your profit equivalent in dollars. So if, for example, you bought one mini-lot of EURUSD at 1.3503 and sold it at 1.3553 you made 50 pips, which for one mini-lot translates to approximately $50 of profit.

In forex it is just as easy to sell as to buy. All you have to do is place a buy order when you believe that the price will increase (go long) or place an order to sell when you believe that the price is going to decrease (to short).