Why Ignoring Possible Forex Trading Hidden Costs Could Get you Broke?

“It’s the money you don’t see that you’re spending that will bleed you right into bankruptcy.” - Richard Hatch, Business Consultant. Hmm, let’s see…I made $50,000 trading this year…How come I’m twenty grand in the hole??

Trading is a business, and the largest business expense for traders – although many of them are unaware of it – is transaction costs, all the costs involved in simply doing trades. If you don’t work to minimize your transaction costs in trading, they can definitely get you broke. In this article I’ll explain some of the major, often “hidden”, transaction costs involved in trading, and how you can easily minimize them and avoid allowing them to leech huge amounts of money from your trading equity.

 

 

How Can Spreads Get You Broke?

Spreads will eat your trading profits up faster than nearly anything else, sometimes even faster than making bad trades. If you pay a 2-pip spread, both getting in and getting out of every trade, you’re throwing money out the window hand over fist. Let’s just do a little math here and have a look at what paying too much in terms of spread price can do in terms of either reducing your profits, or – God forbid – increasing your losses.

Example: Your average trade is one mini-lot, where each pip is worth USD $1.00. 2 pips in and 2 pips out is $4 you’re paying just in spread price on every single trade you make. The first thing you need to realize is that if that’s your situation, then the market has to move at least 4 or 5 pips in your favor just for you to be at breakeven. If you’re intraday trading on shorter time frames, 1-minute to 1-hour, then you’re already in trouble! (The major pairs, for all their zooming up and down, actually only average moving about 10 pips up or down per hour.) Okay, so you’re throwing $4.00 away on every trade. Now let’s assume you do maybe 5 or 6 trades a day – let’s just say 5 – that’s $20.00 a day lost in spread prices. At the end of a year, average of 220 trading days, you will have paid (Are you ready for this? – Drum roll, please…) an astronomical $4,400!! (And remember, that’s just doing a few trades a day, trading one mini-lot on average – if you traded one standard lot, the total would be $44,000!) So, basically, just in case this isn’t yet crystal clear for you, paying excessive spread prices puts you almost $5,000 in the hole starting out – you’ve got to make $4,400 before you just manage to make it to breakeven on the year. Depressing, huh?

But here’s the good news: If you can find a broker whose usual spreads on at least the major pairs (Eur/Usd, Gbp/Usd, Aud/Usd, Usd/Jpy) are closer to 1 pip than 2 pips, you can slice that rather daunting figure right in half.

If you want to be a successful (i.e., profitable) trader, you absolutely must do everything possible to reduce your trading costs. And one of the easiest and most fundamental things you can do is find a GOOD broker that offers nice, small spreads. (My broker, for example, often offers spreads of less than one-half of one pip on Eur/Usd, like 1.35225 bid at 1.35228.) It is nearly always preferable to use an ECN (electronic clearing network) account rather than a “dealing desk” account, as you are almost guaranteed to get smaller spreads. (However, with an ECN account you are usually charged commission fees – take care that these fees are minimal, and if possible, trade through a broker who offers partial “cash back” rebates on your commission fees, usually based on the volume of your trading.)

Here’s a link to one site that offers live broker spread comparisons on 60 of the most popular forex brokers - http://expert4x.com/compare-the-forex-spreads-of-60-forex-broker-live/. Don’t take the spreads they show as absolute gospel – for instance, my broker is usually offering slightly better spreads than this chart shows, but the chart is accurate enough to at least give you a clear idea of which brokers generally offer the best, or worst, spread prices.

 

 

How Can Requotes Get You Broke?

Requotes are “of-the-devil”. Never, ever, ever – NOT AT ALL – trade with a broker who does requotes when you’re trying to place a market order. “Just say NO”. If you’re not familiar with requotes (and hopefully you’re not, because your broker doesn’t do them), requotes are what happens when you bring up the market order screen on your trading platform, click “buy” or “sell”, but instead of immediately filling your order, the broker requotes a new price to you. The original order screen said Aud/Usd bid .94500 at .94515, you hit the “buy” button, and all you get is a new order screen that now reads .94510 bid at .94525. It’s like the broker is asking you over and over, “Are you sure you want to buy this? – It’s one pip higher now.” I’ve heard from some traders that this can turn into a nightmare, where they’re frantically trying to get an order placed, but just get requoted over and over and over – while the market zooms away from their initial desired entry point.

So, let me say again, NEVER use a broker that does requotes. It will make you miss great entry points, and cost you a flat out fortune. Just…don’t…flippin’…do it. Okay? All right then.

 

 

How Can Faulty Trading Platforms/Servers Get You Broke?

Unreliable trading platforms are not only no fun – they will definitely get you broke.

Picture this “lovely” scenario: The market’s moving rapidly – you quickly put in a market order – you go to add a stop loss to it…and your trading platform suddenly crashes before you’re able to enter the stop order. You frantically try to reboot your trading platform over and over, finally succeeding after about 10 minutes…at which point you learn the “happy news” that your position is down 50 pips (about 40 pips more than you ever intended to risk on the trade) and getting worse by the second.That has, thank God in Heaven, never happened to me personally, but I have heard such horror stories from many other traders.

This, again, is usually a problem resulting from trading with a bad (i.e., unreliable) brokerage firm. One of the most basic requirements for a broker should be that they provide solid, steady servers that continue to function under even the worst imaginable conditions – hurricanes, earthquakes, power failures, grizzly bear attacks, etc. – and stable trading platforms that don’t freeze, or otherwise malfunction, on you. If your current broker doesn’t manage to maintain even such minimal standards for operating a brokerage firm, dump them and find some house more reliable to trade through. There’s simply no excuse for a broker not providing you with a stable connection to your trading platform. Short of a nuclear attack directly on the brokerage house offices, nothing on their end should ever prevent you from always having a solid connection to your platform for trading. Any of a number of broker review sites (including this one!) can alert you to brokers who historically experience server or platform connection malfunctions.

 

 

Conclusion - Hidden Costs are Here to Stay, Learn to Avoid

Trading is a business. And like any business, it has costs, operational expenses. Probably the largest operational expense in the business of trading is transaction costs – the costs you pay merely to trade. Therefore, anything you can do to reduce your transaction costs will improve the bottom line of your trading business, making it more profitable. Many of these costs are “hidden”, in that the magnitude of them is not readily apparent to many traders. The easiest way to substantially reduce your transaction costs is to find a good, reliable brokerage firm that offers a stable trading platform, does not engage in requotes, and gives you the lowest possible spread rates. Here are some tips that will help you avoid going broke with hidden costs:

• Find a reliable broker with a solid, stable trading platform – the easiest way to locate one is through talking with fellow traders or looking at broker review sites
• Don’t trade with a broker who does requotes
• Get the lowest possible spreads; trade an ECN account rather than a dealing desk account; try to find a broker who offers cash-back rebates on your commission costs
• Watch out for any other hidden trading costs(…and also for packs of Grizzly bears approaching your picnic table)

 

Guest Post By: Jack Maverick

Jack Maverick is a writer and forex trader. Find him on Google+ at https://plus.google.com/u/0/103534926809963693894/?rel=author and check out his novel, the psychological thriller “A Cross of Hearts”, on Amazon at http://www.amazon.com/Cross-Hearts-J-B-Maverick-ebook/dp/B006GHJ0ZC/

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