How to Calculate Forex Trading Costs: Spread, Commission and Swap

Forex Trading Costs: How Does it Work？

Forex trading costs differentiate from one form to another. While opening a Forex account,the three most important forex trading costs most beginner traders encounter are spreads, commissions and swaps. While sometimes the words “spread” and “commission” appear to be synonymous, they do not refer to the same thing.

Spread is defined as the implied cost of the trade. This means, instead of charging a separate fee for making a trade, the cost is built into the buy and sell price of the currency pair being traded. Commissions, on the other hand, are fixed charges associated with each transaction on ECN accounts. Commissions are generally charged per lot. Despite the fact that spreads are different from commissions, both serve the same purpose as compensation for forex brokers.  

Failing to consider the Forex trading costs can reduce your potential profit substantially and drastically affect your portfolio performance. Lets examine each one in detail. 

What is the Spread？

The spread is an important aspect of forex trading, which is basically the difference between the bid and ask prices of a currency pair. It is crucial for Forex beginners to be aware of Spread as not knowing about it can lead to costly mistakes when it comes to risk management. 

You must remember that every forex trade involves buying one currency pair and selling another. The currency on the left represents the base currency, and the one on the right represents the quote currency. In Forex trading, the “Ask” price represents the price of buying the base currency, while the “Bid” price represents the price of selling it. Spread is a difference between the “Ask” and the “Bid” prices of the traded currency pair.  

Example: If the “Ask” price for the currency pair EUR/USD is 1.15350 and the “Bid” price is 1.15300, the difference of 0.00050 is the spread.

How to Calculate Spread in Forex？

The changes in the spread can be observed by small price movements called pips or points, which correspond to a change in the fifth decimal place of a currency pair (or the third decimal place for pairs quoted in JPY). As the gap widens, the spread widens as well. Spreads tend to be smaller during times of high liquidity, but wider during times of low liquidity. 

To calculate the spread in Forex, you need to figure out the difference between Buy and Sell prices in pips. This is done by subtracting the “Bid” price from the “Ask” price. 

Example: Let's assume you are trading the EUR/USD currency pair, in which the current quote is $1.09156/138. Here, the first figure represents the “Ask” price of $1.09156, whereas the second figure represents the “Bid” price of $1.09138, and the spread between the two is 1.8 pips or 18 points.

What are the different types of forex Spread？

Now you understand spread is the main factor contributing to forex trading costs. Forex traders have the option of choosing between Fixed and Floating spreads depending on what type of account they use.

Fixed Spread: Traders using a fixed spread are assured that the difference between Ask and Bid prices will remain constant no matter how much prices fluctuate. This proves to be very useful for accurate planning of trading costs, better forex risk management, and protecting the trader from high costs. Fixed spreads are best suited for beginners, scalpers, short-term traders and even automated trading. 

Floating Spread: Unlike the fixed spread, the floating spreads value is dynamic and constantly changes based on market conditions. Its value is influenced by many factors, including news announcements, the traded instrument, market liquidity and unscheduled events. Floating spreads have the downside of potentially having your positions closed if the spread widens dramatically, resulting in a margin call. Floating spreads tend to be more affordable than fixed ones, and this type of spread is better for long-term traders who have more flexibility in timing their positions. 

A low spread is always preferable, as marginally higher spreads will cost you more money as the volume of trade increases. Traders should ensure that they pick their forex broker wisely by considering the different types of spreads that they offer. Take advantage of lower spreads on all major currencies from 0 to 3 pips with forex accounts.

What is Forex Commission？

Forex commissions are based on the fact that trading mediators compensate themselves for the services they provide to ECN traders. However, the retail Forex industry is currently less favoured by this strategy. These commissions are taken from the Equity of a trading account, and not from the Balance! 

These forex trading costs are typically associated with zero-spread accounts or ECN accounts with near-zero spreads. Depending on the trading volume and the chosen account type, commission rates may vary. Traders should be aware of this since volume is a very important factor when setting commissions. This type of commission is preferred by traders who prefer trading news and low liquidity markets. In the long run, paying these typical high commissions seems to prevent traders from experiencing abnormally wide spreads, requotes, and slippage. 

The majority of forex currency pairs are traded commission-free. Nevertheless, brokers will apply spreads based on the currency pair traded, the volatility level, and the lot size of the trade. In contrast to the commission that is charged on entry and exit levels, the spread fee is paid upfront. 

If we compare the non-commission forex brokers to commission forex brokers, we are talking about fixed spread brokers, variable spread brokers, and commission brokers. However, there is no difference in price between these forex trading costs. Typically, a broker with a tight spread and a low commission beats a non-commission broker when it comes to the overall cost of the trade.

What is Swap Fee in Forex？

Swap fees or rollover fees are overnight interest rates that are added or deducted from holding a position overnight. You will have to pay this cost only if you dont close the trading position before it extends into another trading day. Having a good understanding of how Forex swaps work is important when trading since it will affect your potential profits either positively or negatively.

Rollovers aren‘t much of a problem for intraday traders, as long as they don’t hold their positions overnight or for a very long time. Whenever you are engaging in a long trade, be sure to review the swap costs associated with the trade and make sure that it does not eat up too much of your profits.

How Do Forex Swaps Work？

Swap fees are determined by many factors, including the swap size, forecasts, and the current exchange rate dynamics for a particular currency pair. Swap values can be either negative or positive depending on the swap rate and the position taken on the trade. This means that either you are required to pay a fee or you will be paid a fee for holding your position overnight. 

Forex traders who trade on leverage will be charged for swap rates. When you open a leveraged position, you are essentially borrowing funds to open the position. If you open up a position on the Forex market, for example, you are effectively making two trades, buying one currency in the pair and selling the other. When you sell one currency, you borrow the amount to sell, which causes interest to accrue on that amount borrowed. On the other hand, if you buy the currency, you earn interest.

How to Calculate Swap rates in Forex？

Swap rates are calculated by the interest rate differential between the currencies being traded – i.e., the rate at which interest from one currency is exchanged for interest from another. The underlying factor here is the difference in interest rates between currencies paired together.

For example, consider you are buying a USD/JPY pair. The overnight rollover rate will be the difference between the interest rates in the United States and Japan. Assuming the interest rate in the United States is 5% and that in Japan is 4%, you would receive 1% as interest when trading USD/JPY. Since you are going long (long swap), the currency from a country with a higher interest rate, you are earning a 1% interest rate on the pair. In contrast, if you are going short (short swap) the currency pair, youll have to pay -1% interest.

Overnight Trading Costs are important to monitor, as they increase the longer a trade remains open. Since a swap can be viewed as a form of interest or a fee charged by a broker, it poses a problem for Muslim traders following Sharia law. Brokers like AximTrade offer swap-free trading to solve this. Find out why most forex traders choose Aximtrade in our in-depth Aximtrade review. 

AximTrade swap-free trading is similar to a regular one except that there will be no overnight fees or interest. AximTrade swap-free trading is available to clients in certain regions, particularly for Islamic countries.

Examples of How to Calculate Forex Trading Costs

Now that you know about Forex trading costs and how to calculate your total cost per trade. Here is an example. Lets say you bought the EUR/USD pair with a position size of 1 lot (100,000 units). The following will be the costs of your trade using Standard and ECN accounts:

Using Standard Account:

Spread - If the EUR/USD pair is trading at 1.28853/850, the spread is 3 pips. This is the first cost of your trade, and since you bought 1 lot of the pair, your spread equals $30.Commission - A Standard account is spread-based and commission-free for traders of all levels.Swap - The swap fee depends on the interest rates of the respective currencies youre trading. Swap Long = 100,000 (1 standard lot) x (0.0001 (1 Pip) x -1.2 (Swap))                    = 1 x 100,000 x 0.0001 x (-1.2)Swap Long = -$12. You'll be deducted -$12 as interest.Swap Short = 100,000 (1 standard lot) x (0.0001 (1 Pip) x 0.16                     = 1 x 100,000 x 0.0001 x (0.16)Swap Short = $1.60. You'll earn $1.60 as interest.

Using ECN Account:

Spread - The spread cost will be the same as the Standard account. If the EUR/USD pair is trading at 1.28853/852, the spread is 1 pip. This is the first cost of your trade, and since you bought 1 lot of the pair, your spread equals $10.Commission - For a “Buy 1 lot EUR/USD” position, the transaction volume is 100,000 units. The commission is charged on both opening ($1.50) and closing positions ($1.50). Then the Total Commission will be: Open ($1.50) + Close ($1.50) = $3.The commission fee is deducted at the beginning of the transaction for both operations at the same time (opening and closing).Swap - The swap fee depends on the interest rates of the respective currencies youre trading with.Swap Long = 100,000 (1 standard lot) x (0.0001 (1 Pip) x -0.72 (Swap))                    = 100,000 x (0.0001 x -0.72)Swap Long = -$7.20. You'll be deducted -$7.20 as interestSwap Short = 100,000 (1 standard lot) x (0.0001 (1 Pip) x 0.24 (Swap))                     = 1 x 100,000 x (0.0001 x 0.24)Swap Long = $2.40. You'll earn $2.40 as interest

Trade Forex With The Most Reliable Trading Conditions

Finding the right Forex broker is essential in order to execute successful trades and remain profitable with lesser forex trading costs. At AximTrade, we work with the best liquidity providers that offer us the best pricing in the markets, making our spreads comparable with some of the best offered globally.

AximTrade Standard account offers the lowest spread available in the market, a minimum of 1 pip on all majors accompanied by 0% commission rates. Experience the freedom to decide at which price you want to buy or sell, and execute the transaction at any time with easy access to real-time pricing of the forex market and quoted buy and sell prices for a wide range of instruments via our online platform. 

Original Article:  How to Calculate Forex Trading Costs: Spread, Commission and Swap

Disclaimer: This post is from Aximdaily and it is considered a marketing publication and does not constitute investment advice or research. Its content represents the general views of our editors and does not consider individual readers' personal circumstances, investment experience, or current financial situation.