Definition of Commission in Forex
Commission in Forex refers to the fee charged for executed trades. Essentially, the commission is the cost of conducting a trade, and its amount is determined by the broker. Typically, the commission is either a fixed amount or a specific percentage of the trade value, and this amount is deducted by the broker or the platform where the trades are executed. The commission is charged before the spread.
Each broker or trading platform may have different commission structures, and the amount is not uniform across all brokers. Additionally, some brokers may not charge a commission at all and instead compensate for it by applying higher spreads, for example.
Commission in Forex
Commission in Forex is divided into two categories: Exchange Commission and Volume Based Commission.
Exchange Commission refers to the amount charged as a fee by brokers.
Volume Based Commission refers to the amount charged based on the trading volume. Brokers usually charge a percentage of the trade volume as commission. This type of commission is suitable for individuals who trade in high volumes.
How is Commission Calculated in Forex?
The amount of commission in Forex trading varies and depends on the type of currency pair and the type of trade. The amount of commission charged by brokers depends on various factors such as market conditions, type of symbol, trade volume, type of market, broker’s location, type of broker, type of account, and type of trade.
Transaction fees are calculated as a percentage or a fixed cost and are usually measured per lot. Most Forex brokers consider the commission as a percentage of the trade value.
Definition of Swap in Forex
Swap, also known as the overnight interest rate, is a fee that is charged or paid to keep a trading position open overnight. In Forex trading, the trader borrows one currency to buy another. The interest rate of the purchased currency and the borrowed currency differ, so the swap rate of the trade can vary depending on the currency.
When a trader decides to hold a trading position overnight, they are essentially borrowing one currency and lending another. The swap rate in Forex refers to the difference between the interest rates of the two currencies.
If the borrowed currency has a higher interest rate than the purchased currency, no fee is charged for holding the position overnight. If the purchased currency has a higher interest rate, a fee must be paid for holding it overnight.
The swap fee in Forex is considered as an approximate percentage of the notional value of the trading position. For example, for holding a $100,000 position overnight with a 0.5% swap rate, $500 will be charged from the trader to maintain the position overnight.
Difference Between Swap and Commission in Forex
Both commission and swap are costs associated with Forex trading, and they are calculated and deducted separately for each trade. Commission in Forex is charged based on the type of trade, while swap refers to the overnight interest rate applied to trades that remain open overnight.
The commission is calculated as a percentage of the Forex trade value, whereas the swap cost is determined based on the interest rate of the currency pair. This amount is either added to or deducted from the client’s account. Some brokers offering Islamic trading accounts do not charge swap fees or apply interest to overnight trades. It is advisable to research the terms and conditions of each broker and understand their various fees before entering the Forex market.
Spread in Forex and Its Types
Spread in Forex and other financial markets refers to the difference between the bid and ask price of an asset, also known as the price gap. In all Forex brokers, there is always a difference between the ask price (selling price) and the bid price (buying price). Typically, the ask price of an asset is always higher than its bid price.
If a trader opens a position and closes it immediately, they will incur a loss equivalent to the spread amount.
The reason for the price difference in brokers is their fee. Spread is one of the primary ways brokers earn revenue, and it can either be fixed or variable. In most Forex brokers, the spread amount is usually variable, and several factors, such as global news, can affect market volatility and, consequently, the spread of trades.
Spread is a major source of compensation for brokers to offset the risks they bear when matching buy and sell orders for traders. Since buyers and sellers are not in the same location and trades occur online, an intermediary is required to coordinate trades. This intermediary may receive a trader’s buy order at a specific price but face an increase in the currency pair price before finding a seller. Hence, the market maker takes a small portion of the trade, known as the spread, to compensate for the risk involved.
Types of Spread in Forex
Spread in Forex is charged in various ways, depending on the type of trade conducted by the trader:
Fixed Spread
In fixed spread, the price gap remains constant and does not change, regardless of current market conditions. The spread amount is the same and unchanging under all circumstances.
Variable Spread
In variable or floating spread, the price gap continually changes, influenced by factors such as market conditions and daily news. These factors can increase or decrease the difference between the buying and selling price of an asset.
Tiered Spread
Forex brokers may offer a tiered or classified structure for spreads. This type of spread allows brokers to increase the spread during specific conditions, such as news announcements, which can lead to significant costs for traders.
How is Spread Calculated in Forex?
Spread changes can be observed in small price movements, known as pips or pipettes, which correspond to changes in the fifth decimal place of a currency pair. For currency pairs quoted in yen, this alignment may occur in the third decimal place.
The greater the price gap, the larger the spread. Spread has an inverse relationship with liquidity: as liquidity increases, the spread becomes smaller.
To calculate the spread in Forex, you need to find the difference between the Ask price and the Bid price of a currency pair.
Comparison Between Spread and Commission at a Glance
In general, both commission and spread are sources of income for Forex brokers. Commission refers to the fee for executing trades and the services provided by the broker, while spread refers to the difference between the buying and selling price of an asset, which is a decimal number provided to traders. Both commission and spread can vary in each transaction.
The difference between the two can be in the amount and the type of payment for each trade. The amount of both depends on the respective broker. The method of charging commission and spread is also different. Some brokers may charge both, while others may not charge commission from the trader and instead calculate a fixed spread. In any case, the terms and amounts of spread and commission depend on the broker itself.
Advantages and Disadvantages of Spread
Advantages
- Spread based pricing is suitable for small trades.
- Trades with spread based fees do not include additional charges in the transaction.
- The cost of each trade is predictable.
Disadvantages
The disadvantage of spread based transactions is that they often charge traders high fees, with no guarantee of reduced costs.
Depending on whether spreads are charged as fixed or variable, different advantages and disadvantages can be associated with them.
Advantages of Fixed Spread
- Fixed spreads do not change and require less capital.
- They are better suited for long term investments compared to variable spreads.
- Fixed spreads make it easier to predict trading costs.
Advantages of Variable Spread
- Variable spreads eliminate repetitive fees since spread changes result in price fluctuations due to market conditions.
- Trades with variable spreads offer more transparent pricing.
Advantages and Disadvantages of Commission in Forex
Advantages
- Commission based pricing can be cheaper, and if the commission charged is not linked to trade volume, it is suitable for large trades.
- In a commission based model, spreads are usually narrower since revenue is not solely based on spreads.
Disadvantages
- There may be hidden costs in this model that the trader is unaware of, such as monthly fees or inactivity fees, which can be part of commission based pricing in Forex.
Which is Better: Commission or Spread?
Each of these two methods has advantages and disadvantages, and traders should choose one based on their trading style and goals. Thus, the choice between spread and commission depends on the trader's conditions and objectives.
Spread is usually lower than commission and is suitable for traders looking to reduce their trading costs. However, variable spreads can be unstable and may change under different market conditions. Commission is predictable and not dependent on market fluctuations, making cost control easier for traders. However, if the commission is higher than the spread, it is considered a major disadvantage for commission based pricing.
Final Thoughts
In this article, we discussed the difference between commission and swap in Forex, explained spreads and their types, and also covered how they are calculated. The three costs commission, swap, and spread are among the expenses that every trader should be aware of before registering with a broker.
Among the various options available, Mond FX is recognized as one of the best brokers for Iranian traders. This broker, by offering services tailored to the specific needs of Iranian traders, including Persian language support and convenient payment methods, has gained a special position among Iranian traders.
Given the specific circumstances of Iranian traders and the existing restrictions, Mond FX can be a suitable and reliable option for entering the world of online trading.
