Wondering Why do some brokers offer “no commission”? How do they make living then? Understanding brokerage plays a vital role in your successful trading journey. They are in forex to make money and you are also in forex to make money. What makes the difference?
No matter if they don’t charge commission fees. They still earn money from spreads. How? This post will tell you everything about how do brokers make money from spreads.
The most transparent way brokers use to earn money in forex is by widening the spread. This increases the cost of a trade. This cost goes into the pocket of the broker. They also earn by requoting and slippage of prices in the fixed spread.
When choosing a broker, it’s your right to inquire about how your broker makes money. However, there is no guarantee that they will disclose every secret. With the increasing trend of forex trading, the chances of a broker’s scam should not be neglected.
Keep going and read three secrete ways below!
What Is Spread in Forex and How It Works?
Simply spread is a difference in ask and bid price. In other words, it is the price difference at which the broker will buy a currency from the trader and the price at which the broker will sell the currency to the trader. This spread is measured or calculated in Pips.
Suppose the bid and ask the difference in EUR/USD is1.1051/1.1053, 2pips. This makes the spread of the broker. In forex, brokers tend to charge higher when traders trade risky currencies.
For example, the understanding spread is just like making a profit on your used tablet. Suppose you purchased it 300$ and now you want to sell it to used tablet shops.
The shopkeeper also wants to make a profit so, he will try to buy it lower than the amount you want to sell it. If he buys it at 299$, he earned 1$ as a spread. That is the profit or income of a broker in forex.
What Types of Spread Brokers May Offer?
Your broker may offer you two types of spreads depending on trading platforms and how do they make money. Understanding both types is important to know your broker more.
Below are two types of spread:
- Fixed Spread
- Variable Spread
The fixed spread remains the same whatever the market situations are. No matter market is highly volatile or low, the spread stays the same at any given time. It is usually offered by brokers who are market makers and dealing desk bodies.
A variable spread is a type of spread in which the ask and bid prices of currency pairs are always changing. Brokers can widen or tighten it according to demand and supply. Brokers operating a non-dealing desk model offer variable spread.
How Do Brokers Make Money from Spreads: 3 Ways
There are several ways no commission brokers earn money from the spread in forex. Some ways are rather trickier and illegal. But some ways are legal and make sense as brokers are there to make money too. They do offer you services.
If they are not getting the commission, how will they earn? Below are a few ways that brokers use to earn money.
1. Brokers Earn Money by Increasing Spread
Your broker is smart enough to take the advantage of unexpected news in the market. Following the news and trendiness in the market, the broker will widen the spread or manipulate the price. As result, the trading cost will increase automatically. Ultimately this is the point when the broker will earn more.
However, in a normal market situation, the spread is lower. Around 1pips to 2pips for major currency pairs. This happens when there is an event or news in the financial market.
Mostly this happens when economic data are released or liquidity in the market decreases due to holidays, spread at 10 PM, or some other reason. Suppose you are about to buy EUR/USD with the lower spread of 1 pip and a sudden US unemployment news break. This can widen the spread to 20 pips. Unbelievable! Though this type of variable spread is not good for beginners.
2. Brokers Earn by Requote in Fixed Spread
In the case of fixed spread, brokers make money through requotes. This happens because pricing is coming from just one source (your broker). Ever thought the broker will earn since the spread is fixed?
As the forex market is highly volatile and prices tend to change unexpectedly. In the fixed spread, the broker can widen the spread to adjust well in market situations.
At this time when a trader opens a position, the broker will block the trade and offer you a new price. This new price is most of the time worse than the one you ordered. This way they re-quote your price and earn money in return.
3. Brokers Earn Money by Slippage in Fixed Spread
When the market is highly volatile, brokers are unable to maintain a fixed spread. They trickily change the price a bit at which the trader enters the trade. In this way, they earn money.
In this scenario, traders’ entry price will be totally different from the intended one. Brokers are clever enough; they monitor your trade behind the scene. They know when to slip the price under the fixed spread and earn money. So, beware of such a broker’s scam.
Frequently Asked Questions (FAQs)
Why do brokers increase Spread?
Brokers tend to widen up the spread when the market is highly volatile due to financial news. This happens after an event or economic data release. This condition is not ideal for beginners to trade. With the increase in spread, pips can jump from 2 to 20. It is risky as well as profitable at the same time.
Most unregulated brokers earn money if clients lose their money. We have a detailed article about do forex brokers want you to lose?
How does spread affect Profit?
Spread directly affects profit. When the spread is wider, traders will take much time to make a profit. When the spread is lower, they can easily make a profit. Therefore, it is highly recommended for traders to use low spread scalping strategies.
How does spread affect trading?
Spread deeply impact trading. When it is wider, the market is highly volatile and liquidity is lower. At this time trading can be both profitable and riskier. On the other hand, the low spread is an indicator of low volatility and high liquidity. Mostly expert recommends beginners to follow low spread trading strategies.
We recommend choosing a regulated and low spread broker. ICMarkets is one of the reputed low spread and regulated brokers you can check out.
How do brokers make money from CFDs?
The CFDs broker make money by spread quoted on each market. The traders get the advantage of the lowest spread. The spread is actually the difference between buying and selling prices. This price difference is the money that CFDs charge from traders. They also earn money by allowing markups on trade.
In this post, you will find transparent and tricky ways brokers use to earn. Your choice of broker is important for your success in forex. I would advise you if you are a beginner in trading with smaller accounts, it’s ideal to go with fixed spread traders.
Those who are expert full-time traders and want to make a fast profit should go with the variable spread. CFDs are the better option if you want to avoid a broker’s scam. Don’t forget to share your opinion about your broker in the comment box! Bye for now, we’ll be right back with another informative topic.