ARMFThe costs of a forex trade: spread, commission, swap
Spread and swap in forex reduce the result no matter where the price went. On long stops their share is unnoticeable, on short ones it is comparable to the risk itself. We take apart three kinds of costs, count their share in risk and look at how they change the win rate a system needs.
Three kinds of costs: spread, broker commission and swap in trading
- Spread
- The distance between the buying price and the selling price. It is taken at the entry: the position opens with a minus equal to the spread, before the price moves at all.
- Commission
- A charge for turnover on accounts with direct access to liquidity. It is usually quoted per lot one way or both ways and does not depend on the outcome of the trade.
- Swap
- The amount the account gives up or receives for holding a trade through the change of trading days; it comes from the difference between the rates of the two currencies. The sign can be positive, but building income on it is risky: rates get revised.
The first two kinds are paid always, the third only when a position is carried over. Risk calculations usually include the spread and the commission; the swap matters for trades held longer than a day.
What share of risk the spread eats
The spread is a fixed value in pips, while risk is set by the distance to the stop. So the share of the costs in risk is inversely proportional to the length of the stop: the shorter the stop, the more expensive every trade is in relative terms.
| Stop | Spread 0.5 pips | Spread 1 pip | Spread 2 pips | Spread 5 pips |
|---|---|---|---|---|
| 10 pips | 5 % | 10 % | 20 % | 50 % |
| 20 pips | 2.5 % | 5 % | 10 % | 25 % |
| 40 pips | 1.3 % | 2.5 % | 5 % | 12.5 % |
| 80 pips | 0.6 % | 1.3 % | 2.5 % | 6.3 % |
| 150 pips | 0.3 % | 0.7 % | 1.3 % | 3.3 % |
In the cells — the share of the spread in the distance to the stop, that is, in your risk. Scalping with stops of 10 pips at a spread of 2 pips means that a fifth of the risk goes on costs in every trade. For the system to stay profitable it needs a noticeably higher win rate than the bare risk-to-reward ratio suggests.
How costs raise the required share of winners
The break-even win rate without costs is counted as 1 ÷ (1 + R/R). With costs both the risk and the target shrink by their size, and the required share of winners grows. Let us count it for a ratio of 1 : 2 with a stop of 20 pips and a target of 40 pips.
| Costs per trade | Actual risk | Actual target | Net R/R | Win rate needed |
|---|---|---|---|---|
| 0 pips | 20 pips | 40 pips | 1 : 2.00 | 33.3 % |
| 1 pip | 21 pips | 39 pips | 1 : 1.86 | 35.0 % |
| 2 pips | 22 pips | 38 pips | 1 : 1.73 | 36.7 % |
| 4 pips | 24 pips | 36 pips | 1 : 1.50 | 40.0 % |
Four pips of costs turn the system «1 : 2 at a win rate of 35 %», which looked profitable, into a losing one: the required share of winners rises to 40 %. That is exactly why strategies that look good on history without costs lose money on a real account.
What a swap is in trading and why it is dangerous for medium-term positions
The swap is charged for holding a position overnight and depends on the difference between the interest rates of the pair's currencies and on the direction of the trade. On the same pair, buying and selling usually give a different sign and a different size.
- A tripled charge
- In the middle of the week the swap for three days is charged — that is how the weekend, when settlement does not take place, is accounted for. The exact day depends on the broker and the instrument.
- Accumulation over a long distance
- A negative swap of $1 per night on 0.10 lots over a month of holding is about $30. For a trade with a planned profit of $100 that is a third of the result.
- The swap changes
- The values are revised following the rates and the broker's terms. A position opened under a positive swap may end up under a negative one without any action from you.
A practical conclusion. If a trade is planned for several days or longer, the swap has to be included in the target calculation on a par with the spread. The easiest way is to convert it into pips: how many pips of movement the holding of the position eats over the planned term.
Frequently asked questions
What is a spread in simple words?
The difference between the price at which you can buy and the price at which you can sell at the same moment. When you open a position, you are immediately down by the size of the spread — that is the fee for entering the market.
What is a swap in trading and when is it charged?
A fee or a credit for holding a position overnight, based on the difference between the interest rates of the pair's currencies. It is charged at the moment trading days change; on one day of the week it comes in a tripled size for the weekend ahead.
Which costs should be included in the risk calculation?
The spread and the commission — always, because they arise in every trade. The swap — if the position is held longer than a day. It is practical to add the costs to the distance to the stop: then the volume is counted with them already included.
Why does a strategy that is profitable on history lose money on a real account?
The most common reason is testing without spread, commission and slippage. On short stops these values are comparable to the risk itself, and a system with a small positive expectancy on «clean» history turns out to be losing on real quotes.
What spread is considered normal on EUR/USD?
On accounts with market execution during the active hours — fractions of a pip plus commission, on accounts with a fixed spread — single pips. What has to be compared is the full cost: spread plus commission per turnover, converted into pips.
When does the spread widen the most?
At the moment macro statistics are published, at the opening of the Asian session and before the week closes. In these windows a short stop can be hit by the widening itself, without any move in the average price.
How do you count the swap in pips?
Divide the overnight charge by the pip value for your volume. If the swap is −$1.20 per night on 0.10 lots and a pip is worth $1, that is 1.2 pips a day — over a month it adds up to about 36 pips that the target is obliged to cover.
What is a tripled swap and when is it charged?
A charge for three days instead of one — that is how the weekend, when settlement does not take place, is accounted for. The day of the week depends on the broker and the instrument and is stated in the specification.
Is a positive swap worth using as a source of income?
As an addition to a trading idea — yes, as a strategy of its own — risky: rates get revised, and the exchange rate can go against the position faster than the charge accumulates. Carry trade requires a separate risk calculation, not just a comparison of rates.
How do costs change the choice of timeframe?
The shorter the stop, the larger the share of costs in risk. At a spread of 1.5 pips a stop of 15 pips gives up 10 % of the risk to costs, while a stop of 150 pips gives up 1 %. That is why scalping requires either minimal costs or a noticeably higher win rate.
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