Trading Course for Beginners: Course 2

Trading Course for Beginners: Course 2
Menu

Lesson 4 What is Slippage?

Lesson 4 What is Slippage?

Reading Time: 8 minutes

Slippage is often misunderstood in the Forex market, particularly among new Forex traders and investors.

Textbook definition of slippage:

The difference between the requested price—or expected price—and the price at which the position is filled.

To understand slippage in Forex trading, knowledge of bid and ask price levels can be helpful:

• The current bid price is the price level traders are able to sell immediately; think of the bid as willing buyers (dealers and market makers) who stand ready to accept sell orders.

• The current ask price is the level traders can buy immediately; the ask represents willing sellers (dealers and market makers) standing ready to receive buy orders.

Example:

Imagine the EUR/USD has a bid of $1.20500 and an ask price of $1.20520: a bid/ask spread of 2 pips. If a trader wants to enter long EUR/USD, he or she would buy at the asking price: $1.20520.

However, if EUR/USD is experiencing a phase of increased volatility at the time of trade execution, the price between the time the trader’s order is placed and the time it is filled can be different: slippage. in the example, the trader may see the order filled at $1.20530 instead of the desired price of $1.20520.

Positive and Negative Slippage

When slippage occurs, the difference in price movement can be either positive or negative for the trader.

Positive slippage, in the case of above, is when the order is executed at a better price than requested, such as $1.20510, a favourable 1-pip difference. Negative slippage, nevertheless, materialises when the order is filled at a worse price than anticipated. In the noted example, this could mean a fill of $1.20570, an unfavourable 5-pip price difference that ultimately increases risk (the distance from the entry and protective stop-loss order is larger) and decreases reward potential (the negative slippage has entered the trader in the market closer to any take-profit objective). Obviously, slippage is less of a concern for long-term traders or investors, but short-term speculation (day trading and scalping) can be problematic.

Why Does Slippage Occur?

• The most common cause of slippage is low liquidity. Liquidity represents the degree to which a security can be bought or sold. When low liquidity is present in the market, brokerages, assuming a market order is used, will fill at the next available price.

• Another common cause of slippage is high volatility. This can often be seen around news time in the markets. When the market experiences high volatility, the price change can be rapid, therefore bid and ask price levels may differ between the time the trader’s order is placed and the time it’s executed.

Can Forex Slippage Be Avoided?

While slippage is an unavoidable aspect of trading, there are things you can do to help lessen its effect:

• Newer Forex traders are generally recommended to avoid volatile markets (currency pairs) and to trade pairs with low volatility and high liquidity. Major currency pairs are liquid markets and (generally) offer low volatile market conditions for beginners—think EUR/USD, GBP/USD, AUD/USD, or USD/JPY, for example.

• Avoid trading just before, during and after a news event. Markets tend to experience high volatility at these times and slippage can be an issue. Fortunately, Forex brokers often provide access to dedicated economic calendars, which display upcoming major news events in an easy-to-read format. This makes it easier to note potentially precarious trading times.

• Trade orders: consider employing limit orders. A limit order is an order type that enables market participants to buy or sell at a specified price or better. In effect, it limits the price you are prepared to receive. Market orders, on the other hand, are an instruction to buy or sell immediately at the next available bid or ask price. It is important to remember, though, that limit orders in MT4 and MT5 are filled as market orders once executed.

• Only engage with the market during active trading sessions. Three major trading sessions exist. The Asia session begins at approximately 10:00 pm (GMT+1) and trading volume is normally low during this period. London then gets underway at 8:00 am, and trading volume tends to increase. Bear in mind that Tokyo remains open until 10:00 am—a 2-hour overlap that can offer interesting trading setups. Peak trading volume is usually observed during the London and New York overlap (when two of the most prominent financial centres are active) between the hours of 1:00-5:00 pm. The US session starts heating up between 1:00 pm and 2.30 pm, which is when US equity cash markets open.

Get instant Updates in Telegram
Mapa strony | © FP Markets 2022