Every trader knows the difference between the fixed and floating spread. Turns out that the type of spread can represent also the brokers characteristic. So, let's discover whether fixed spread is a positive or negative aspect.
Every participant of the financial markets wants to reduce trading costs and no wonder that for traders the size of the spread is one of the major factors while choosing the broker. For brokers, company spread is a powerful competitive advantage and the lever of customer acquisition.
Following these considerations, we can make a conclusion that the lower will be marked the fixed spread of this or that financial instrument, the more profitable the trade will be. However, in practice it isn't always turning out to be true. Moreover, the most part of a large brokerage company offers along with low fixed spreads, floating, spreads which size is unlimited and isn't regulated anywhere. And they consider this one of the competitive advantages in the market.
So, should the trader be aware of tight fixed spreads? Whether there is a sense to be afraid of floating spread? And, what is more, profitable for brokers?
Fixed spreads
The spread is charged for each trading transaction, regardless of its result and is a payment method for intermediary services in the financial market, i.e. a net income of the broker. Thus, mathematically, the spread is a difference between the most beneficial prices of purchase and sale of the same financial instrument.
In such way, the spread on every tool in every time-point has to change depending on the current market quotations.
The broker, fixing spread during the certain period on the same mark, does it artificially. Thus, it is obvious that the size of a fixed spread hasn't a direct bearing on tool volatility.
Floating spreads
The floating spread is determined specifically by the market situation and doesn't assume any external interference. The trader using floating spread pays for each transaction the amount precisely equal to a difference between the cost of the demand and supply of this asset at the time of the transaction. Thus, anybody, including the broker, can't determine the size of spread in advance and guarantee hypothetical advantage of this or that transaction.
Pro and Cons of different spread types
Using low and known spread, the trader gets an advantage and increases the productivity of his activities in the market. However, it is important to understand that any broker won't be his own enemy and substantively reduce own profit.
In case of a large gap between the best prices of Bid and Ask, the size of a fixed spread can be also increased and fixed on a new mark. And in case of strong market volatility, it is can be widened to several hundred points.
After all, the fact that the broker interfere in the spread size means that the broker can not only lower spread for customer acquisition, but also to increase it in comparison with objective market conditions to raise his own profit.
On the other hand, the non-regulated floating spread in different time-points can potentially appear as lower, as higher than fixed that brings an additional element of nervousness in the hard work of the trader.
However, it is possible to assume that the broker doesn't influence not only the spread size, but also other parameters of transactions, including the quotes. So that means that, traders really interact with other participants of the market, but not with the company.
Rules of safe work with fixed spreads
It is obvious that the artificial concept of fixed spreads in itself isn't an occasion to refuse the possibility of planning and decrease in the trading costs, however before using the advantageous offer from the broker, be convinced that:
The minimum spreads from 0.2, 0.5 or 1 pips are not offered on all currency pairs, but on the most liquid of them only. Otherwise, appears a question: from where the broker gets profit and whether he put client transactions to the market.
Fixed spreads are offered only for the transactions processed by the dealer. Work in the direct interbank market and straight through processing, passing Dealing Desk, excludes a possibility of any manipulations with transaction parameters, including the spread size.
The company doesn't give an absolute guarantee of the maintenance of a fixed spread at the same level and accurately informs clients of opportunity and conditions of its change. Other statements would mean readiness of the broker to sustain losses in case of each serious jump of market volatility or liquidity that contradicts the principles of business, so, can't be the truth.
As we see, the type of spread by itself isn't the guarantor of brokers reliability. Fixed and floating, spreads both assume certain benefits and shortcomings. However, attentive studying of companies offers and understanding of that in a case of spreads less is not always means better, undoubtedly, will help you to optimize the expenses of each trading activity and to increase the general level of market work safety.