What is Spread? What is Pip? Beginner Traders Must Know!

Hearing the words “spread” and “pip” in the world of trading often makes some people feel smart without actually understanding what they mean. Some nod in agreement while mentioning numbers that sound complicated, though deep down, they might be wondering, “What exactly is a spread?”, “What exactly is a pip?” Don’t worry, you’re not alone. Many feel the same way.

What is Spread?

In the stock market, a spread is the difference between the highest buying price (bid) and the lowest selling price (ask) of a stock. The spread represents the difference between what buyers are willing to pay and the price sellers are asking for in the stock market.

• Bid: The highest price a buyer is willing to pay for a stock.
• Ask: The lowest price a seller is willing to accept for a stock.

Example:

• Bid price: $50
• Ask price: $51
• Spread: $1

Factors affecting spread:

1. Liquidity: Stocks with high liquidity (lots of transactions) usually have a small spread. Less liquid stocks tend to have a larger spread due to fewer transactions.
2. Volatility: During market instability, spreads can widen due to price uncertainty.
3. Lot Size: The volume of demand and supply at certain levels can also influence the spread.

The spread is one of the indirect costs in stock trading. The smaller the spread, the cheaper it is to enter and exit the market.

Types of Spread

In forex trading, spreads are divided into two main types, based on how brokers determine their fees. Below is an explanation of the types of spreads:

1. Fixed Spread

A fixed spread remains unchanged regardless of market conditions. The bid and ask prices always have the same difference, even during high market volatility.

This type of spread is very suitable for beginner traders because it is easier to predict and calculate the costs. Additionally, there are no sudden cost surprises during extreme market conditions.

However, fixed spreads have their disadvantages, such as:

• Usually higher compared to variable spreads under normal market conditions.
• Commonly used by Market Maker brokers, which sometimes “create their own market.”

Examples of brokers offering fixed spreads include FBS and InstaForex.

2. Variable Spread (Floating Spread)

A variable spread changes depending on market conditions, such as liquidity, volatility, or trading hours.

This type of spread is often used by ECN/STP brokers, which connect traders directly to the market. Variable spreads are typically smaller in stable market conditions (e.g., during quiet market hours).

The downside of variable spreads is that they can widen significantly during volatile markets (e.g., Non-Farm Payroll releases or economic crises). Thus, they are less suitable for beginners who may struggle to calculate costs under widened spreads.

Examples of brokers offering variable spreads include IC Markets (Raw Spread account), Exness, and Pepperstone.

Which is Better?

The choice between fixed or variable spreads depends on your trading style and strategy:

Extreme Market Conditions

Extreme market conditions affecting trading, including both fixed and variable spreads, usually occur when market volatility increases significantly. In such cases, prices move quickly, and market liquidity may decrease. Here are some examples of extreme market conditions:

1. Important Economic Data Releases

Economic data such as Non-Farm Payrolls (NFP), interest rate announcements, or Consumer Price Index (CPI) often cause spikes in volatility. This makes the market move rapidly as many traders react to the news.

As a result, brokers with variable spreads usually widen their spreads significantly a few minutes before and after the news is released. Meanwhile, brokers with fixed spreads offer more stable trading costs even as prices move wildly.

2. Political or Geopolitical Events

Examples include major elections (e.g., U.S. Presidential Elections), referendums (e.g., Brexit), or geopolitical tensions (e.g., wars or regional conflicts). These create uncertainty, destabilizing the market as participants adjust their positions.

As a result, high volatility and reduced liquidity can cause variable spreads to widen drastically.

3. Financial or Economic Crises

Examples include stock market crashes, the bankruptcy of major financial institutions (e.g., Lehman Brothers in 2008), or global pandemics (e.g., COVID-19 in 2020). Fear and uncertainty cause investors to pull funds from the market, reducing liquidity.

As a result, low liquidity drives variable spreads to spike, while fixed spreads provide stability, although there may be risks of requotes with some brokers.

4. Unusual Currency Fluctuations

For instance, sudden announcements by central banks (such as the Swiss National Bank’s decision to unpeg the CHF from the EUR in 2015) can cause currencies to move drastically within a short period because the market is unprepared for the sudden changes.

As a result, variable spreads can widen by dozens of pips. Fixed spreads usually remain unchanged, though some brokers may experience execution delays (requotes) or even temporarily halt executions.

5. Market Holidays or Weekends

During major holidays or weekends, trading volumes drop significantly as banks and major institutions remain inactive. Examples include Christmas or New Year holidays, or non-trading days in major countries. Brokers with variable spreads tend to widen spreads due to low liquidity. Fixed spreads typically remain the same, though execution costs may slightly increase.

Benefits of Spread for Brokers and Traders

The benefits of spreads differ between brokers and traders because their roles in financial markets are different. Here’s the explanation:

Benefits of Spread for Brokers

Spreads are a stable source of income for brokers. Why? Because spreads are fees that traders must pay to brokers regardless of whether the trader makes a profit or loss. Harsh, isn’t it? But that’s how spreads work.

Spreads are considered stable because they are a fixed part of every transaction, giving brokers steady income regardless of market conditions. Even if the market is volatile or stagnant, as long as transactions occur, brokers will continue to earn.

For brokers using a market maker model, spreads are a source of profit without taking market risks. They don’t actually need to buy or sell assets in the external market; they simply match transactions between traders. The spread directly becomes their revenue.

Example:
Trader A buys EUR/USD, while Trader B sells EUR/USD. The broker handles the transaction internally and takes the spread from both without any risk.

Benefits of Spread for Traders

Directly, spreads don’t benefit traders, as they are a transaction fee charged by brokers whenever traders open a position. However, spreads can be used as an indicator that shows market liquidity, meaning there are plenty of active buyers and sellers. Traders can use this information to choose more favorable trading times.

For example:

• Low spreads = Lower costs, easier execution of transactions, and reduced slippage risk.
• High spreads = The market is less liquid or volatile, requiring traders to be more cautious.

Spreads can also help traders adjust their trading strategies by encouraging them to be more selective when choosing currency pairs or instruments. Traders tend to focus on assets with low spreads to maximize profits.

Example:

• Small spreads: Ideal for short-term strategies like scalping, where small profits need to be achieved quickly.
• Large spreads: Suitable for volatile markets, where significant profit opportunities may arise, especially for experienced traders.

Why Do Brokers Advertise Low Spreads? Often, Unrealistic Offers Come with Hidden Traps

Brokers frequently advertise low spreads for strategic and marketing reasons, but such offers can come with hidden pitfalls. Here are some reasons brokers offer low spreads:

• Attracting New Traders: Low spreads are appealing to traders, especially those who are just starting out and may not fully understand all trading costs. Low spreads are often marketed as a way to reduce trading costs and increase profitability.
• Competitive Advantage: The brokerage industry is highly competitive. By offering low spreads, brokers aim to appear more attractive compared to competitors with higher spreads.
• Highlighting Market Benefits: Spread is one of the factors traders often consider. By showcasing low spreads, brokers try to demonstrate that they offer favorable trading conditions.
• Encouraging Traders to Open Specific Accounts: Low spreads are usually offered on certain account types (e.g., ECN accounts) that may come with additional commissions or higher minimum deposit requirements.

Despite these enticing offers, there are hidden traps traders—especially beginners—need to be aware of. Here are some common traps hidden in brokers’ low-spread offers:

1. Additional Commissions: Brokers offering low spreads often add commission fees per lot. While the spread may be low, the total trading cost can be equal to or even higher than brokers with standard spreads without commissions.
2. Low Spreads Only for Certain Currency Pairs: The advertised low spreads usually apply only to major currency pairs like EUR/USD, while spreads for other pairs may remain high.
3. Variable and Inconsistent Spreads: The promised low spreads are often “variable spreads,” meaning they can widen drastically during high market volatility, such as during economic news releases.
4. Strict Account Requirements: To access low spreads, you may need to open an account with specific conditions, such as a high minimum deposit, often much larger than standard accounts.
5. Non-Transparent Trading Conditions: Some brokers offer low spreads on accounts set up to execute orders with slippage (sudden price movements), requotes, or high latency, ultimately disadvantaging traders.
6. Unregulated Brokers: Some brokers offering very low spreads are unregulated, meaning they may lack adequate fund security or operational transparency.

How to Avoid These Traps

Here are some steps to protect yourself from these hidden traps:

1. Read Terms and Conditions: Always check the terms and conditions to find out if there are additional fees or hidden restrictions.
2. Choose a Regulated Broker: Make sure your broker is regulated by a credible financial authority.
3. Pay Attention to Actual Spreads: Test a demo account or use a live account with small capital to check if the advertised spreads align with reality, especially during volatile markets.
4. Compare Total Trading Costs: Don’t just focus on spreads; also consider commissions, slippage, and other costs that affect your profitability.
5. Check Broker Reviews and Reputation: Learn from other traders’ experiences with the broker, particularly regarding order execution, fee transparency, and fund security.

Low spreads—even as low as zero—may seem very tempting for beginner traders. But remember, there’s often a “hidden cost” behind them. Brokers might compensate for lost revenue from spreads through high commissions, additional fees, or poor order execution. For beginner traders, it’s better to focus on regulated brokers with transparent costs and stable trading conditions rather than being lured by offers that seem “too good to be true.”

Are There Brokers That Truly Understand Both Beginners and Experienced Traders by Offering Low Spreads Without Many Traps?

Brokers with low spreads and transparent policies are highly sought after by both beginner and experienced traders. Some brokers are known to better accommodate traders’ needs by offering features such as low spreads, fast execution, and clear regulations without many “traps” or hidden fees.

Here are the characteristics of trader-friendly brokers:

• Low spreads are typically found with brokers using ECN (Electronic Communication Network) or STP (Straight Through Processing) models. These brokers tend to earn from clearly stated commissions rather than spreads.
• No Hidden Fees: A good broker will be transparent about costs such as swap fees, commissions, or deposit/withdrawal fees. Avoid brokers offering “big bonuses” with difficult-to-meet conditions.
• Clear Regulation: Choose brokers regulated by credible authorities such as CFTC/NFA (US), FCA (UK), ASIC (Australia), and CySEC (Cyprus). Regulations ensure that brokers operate under established standards.
• Demo Accounts & Education: Brokers supporting beginners usually provide unlimited demo accounts and useful educational materials, such as webinars, trading guides, or market analysis.
• Fast Execution Without Requotes: Trusted brokers offer high-speed execution without frequent requotes, especially for strategies like scalping or trading in volatile markets.

Examples of Trader-Friendly Brokers with Low Spreads and Trusted Policies

Below are some reputable brokers known for offering low spreads and trader-friendly features:

1. IC Markets

Spreads starting from 0 pips (Raw Spread accounts) with small commissions. Regulated by ASIC (Australia) and CySEC (Cyprus).

Advantages:

• ECN broker with fast execution.
• Supports multiple platforms like MetaTrader 4/5 and cTrader.
• Suitable for scalping, automated trading, and other strategies.
• High liquidity.
• Transparent fees.
• 24/7 customer support.

2. Pepperstone

Spreads starting from 0.1 pips (Razor accounts). Regulated by FCA (UK) and ASIC (Australia). Suitable for scalpers, day traders, and those using Expert Advisors (EA/robot trading).

Advantages:

• Popular trading platforms like MT4/5 and cTrader.
• Low commissions and fast order execution.

3. Exness

Spreads starting from 0.3 pips for standard accounts or 0 pips on specific accounts. Regulated by CySEC (Cyprus) and FCA (UK). Suitable for both beginner and professional traders.

Advantages:

• Instant withdrawals without extra fees.
• Wide range of account options, including for beginners.
• Multilingual customer support.

4. XM

Spreads starting from 0.6 pips (standard accounts) or 0 pips (Zero accounts) with commissions. Regulated by ASIC (Australia), CySEC (Cyprus), and IFSC (Belize). Suitable for traders looking to learn and start with small capital.

Advantages:

• Trading bonuses without hidden traps (e.g., welcome bonus).
• Extensive educational resources like webinars and daily analysis.
• No requotes or delayed execution.

5. FP Markets

Spreads starting from 0 pips (Raw accounts) with small commissions. Regulated by ASIC (Australia) and CySEC (Cyprus). Ideal for traders prioritizing fast execution.

Advantages:

• ECN broker with extremely fast execution.
• Supports various platforms, including MetaTrader and cTrader.
• Comprehensive educational resources for beginners and advanced features for professionals.

6. Tickmill

Spreads starting from 0 pips (Pro accounts) with low commissions. Regulated by FCA (UK) and CySEC (Cyprus). Suitable for traders seeking low-cost trading combined with trusted regulation.

Advantages:

• Trader-friendly environment for scalpers and EA users.
• Focus on low costs and transparency.

7. FBS

Spreads starting from 0 pips on ECN accounts or 0.5 pips on standard accounts. Regulated by IFSC (Belize) and CySEC (Cyprus). Suitable for traders looking for flexible deposit options.

Advantages:

• Attractive promotions, such as no-deposit bonuses.
• Cent accounts for beginners with small capital.
• Responsive customer service.

What is a Pip?

A Pip (short for “percentage in point” or “price interest point”) is the smallest unit used to measure price movement in the forex market. Generally, 1 pip = 0.0001 (four decimals) for major currency pairs like EUR/USD or GBP/USD. For example, if EUR/USD moves from 1.1000 to 1.1001, the change is 1 pip.

For pairs involving JPY (e.g., USD/JPY), a pip is calculated in two decimals. For example, if USD/JPY moves from 110.00 to 110.01, the change is 1 pip.

Uses of a Pip:

• Pips are used to measure profits or losses in trading.
• The value of 1 pip may vary depending on the lot size (volume) and currency pair.

Relationship Between Spread and Pip

Pips are used to measure the spread, which determines the trading cost. Spreads are calculated in pips, and the smaller the spread, the lower the trading cost.

Example of Costs Based on Spread:

• If a broker offers a spread of 1 pip for EUR/USD and you trade a standard lot (100,000 units), the cost is: 1 pip x $10 = $10 (assuming $10 is the pip value for a standard lot).
• If the spread is smaller, say 0.6 pips, then the cost would be: 0.6 pips x $10 = $6.

The smaller the spread, the lower the transaction costs, which is especially important for strategies like scalping.

Types of Pips

In forex trading, pips have different types or terms depending on how they are calculated and used. Below are the commonly found types of pips:

1. Standard Pip

A standard pip is the basic unit for measuring price changes in the forex market. This type of pip is used as the foundation to calculate profit or loss in forex transactions.

• For most major currency pairs, 1 pip = 0.0001.
• For currency pairs involving JPY (Japanese yen), 1 pip = 0.01.

Example:

• If EUR/USD moves from 1.1000 to 1.1001, the change is 1 pip.
• If USD/JPY moves from 110.00 to 110.01, the change is 1 pip.

2. Fractional Pip (Pipette)

A fractional pip, often called a pipette, is an additional unit after the standard pip. Pipettes allow brokers to offer more accurate pricing, enabling traders to calculate smaller changes in market movements.

• 1 pipette = 1/10 of a standard pip.
• Its value is often displayed as the fifth decimal place (for major pairs) or the third decimal place (for JPY pairs).

Example:

• If EUR/USD moves from 1.10001 to 1.10002, the change is 1 pipette or 0.1 of a standard pip.
• If USD/JPY moves from 110.001 to 110.002, the change is 1 pipette.

3. Pip Value

Pip value is the amount of money equivalent to a 1 pip movement in trading. This value depends on the lot size (trading volume) and the currency pair being traded. Understanding pip value helps traders calculate potential risks and rewards for each transaction.

Example:

• For a standard lot (100,000 units): 1 pip on EUR/USD = $10.
• For a mini lot (10,000 units): 1 pip on EUR/USD = $1.
• For a micro lot (1,000 units): 1 pip on EUR/USD = $0.10.

4. Double Pips

Some trading platforms or traders use the term “double pips” to refer to pips on a different scale, where 1 standard pip is counted as 10 pips. This type of pip is useful for simplifying communication or internal analysis in certain trading systems.

For example, in a double pip system, the movement of EUR/USD from 1.1000 to 1.1001 is counted as 10 pips, not 1 pip.

5. Positive Pips and Negative Pips

These types of pips are used to describe the trading position:

• Positive Pips: When the price moves in the direction of the trader’s position, resulting in a profit.
• Negative Pips: When the price moves against the trader’s position, resulting in a loss.

6. Equity Pip

An equity pip is the pip value adjusted to the available margin. In other words, pip changes are calculated based on their impact on the trader’s account equity. This type of pip is very helpful in risk management and margin calculations.

For example, if a capital of $1,000 is used with 1:100 leverage, the equity pip value might be smaller than without leverage.

Summary of Pip Types

Each type of pip serves a different function depending on its context. Below is a summary of pip types:

Understanding Pips and Trading Costs

A deep understanding of pips helps traders manage risks, determine strategies, and calculate profits more effectively.

If a broker offers low spreads, it means the difference between the bid and ask prices in pips is also small. This is advantageous because transaction costs are reduced, especially for traders who frequently open and close positions like scalpers. However, note that some brokers with low spreads may charge additional commissions, so it’s important to check the overall trading costs.