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The term slippage is something you will often hear reference to if you are trading forex, or perhaps when you are researching with the intention of joining a new forex broker, or trying out a new trading platform.
Digging a little deeper to define what slippage actually is, and the explanation is quite simple. Slippage is the difference between the expected price of an asset when the trade was ordered, against the actual price that the trade was executed at.
Here we will examine a little more in depth as to how forex slippage occurs, and how you can best manage to avoid these situations.
When and Why Does Slippage Occur?
Any price change in your asset could hypothetically lead to slippage on the trade. The reality is though, that slippage is only likely to become an issue if the market is in one of two situations.
The first of these is when the market is not busy, so there are lower volumes being traded at that particular time. These volumes, no matter the reason they are present, can cause prices to change quite rapidly since there may not be sufficient support to maintain a certain price. These changes may not be very huge movements, but they can cause slippage.
The second major reason behind slippage in the forex and others, is market volatility. Within the forex market there may be periods of time where certain currency pairs or assets are subject to increased volatility. This could be due to certain important news, events on the economic calendar, or as part of wider economic conditions. This kind of volatility can again cause prices in to change very quickly which can result in slippage.
While there is no way to exactly know when slippage is going to occur, since it is often down to very small time windows where the prices change in less than a second, you can do your best to identify particularly common periods. Peak trading hours for the forex market are also likely to coincide with much higher volumes for example. The period of time around important economic announcements may also leave you open to slippage depending on how the market reacts.
Positive and Negative Slippage
Since slippage refers to any movement of the price between order and execution, then this can go in both ways. Slippage can be positive when the ask price of an asset decreases before the order is executed in a long trade.
Taking a look at an example, the bid/ask in the EUR/USD market may be 1.08/1.09. In this case, you will be expecting that your order is filled at the price of $1.09. If however, in the fractions of a second that it takes for the order to be executed, this price changes to $1.085, then you will have benefited from positive slippage since the ask price has dropped and the trade will have been executed at the better price.
Negative slippage is the exact opposite of this, and occurs where the price has risen slightly before order execution but the trade is then filled at the higher price meaning that you end up paying slightly more than you had first anticipated.
How common is Slippage in Forex?
Although slippage in forex is reducing more and more with the increase in order execution speeds, it still does occur. Almost all of the best forex broker choices you could make when you start trading try to negate the impact of slippage as much as possible. This can include adapting the methods they use to execute orders, or through special features that can manage to combat slippage.
Despite best efforts though, slippage is still something that you will have to take into account when you start trading forex. With that said, there are a number of ways that you can help protect yourself from slippage on your trades.
The Best Ways You Can Avoid Slippage
As a forex trader, one of the first things you can do to reduce the occurrences of slippage is to make sure you choose a forex broker that provides the fastest execution speeds possible. This should reduce the time between order and execution, where slippage can occur. There are also two other key ways that you can reduce your exposure to slippage.
Manage Your Order Types
Slippage most commonly occurs when entering a position with a market order. This leaves you subject to a small window of change in the market, with the trade still being executed at the different price due to the nature of the order.
The most effective way to combat this is to utilize limit orders. This will mean you are not exposed to the possibility of slippage, but your limit orders may not be filled right away. Here, you have to choose between getting into the position quickly with the potential for some slippage, or having the time to wait and fill your order at a particular price.
Another place where slippage occurs most is when exiting a position. The most effective way to manage this is to have a stop loss in place. You can still experience some slippage even with a stop loss, though it will leave you in a much better position if the market is volatile.
Be Careful When Trading Around Economic Events
The period of time around major news and economic events can be the most volatile time in the forex market. This is typically a time when many are moving around their position and trying to preempt the news that is to come, or reacting to an announcement that has just been made. This market volatility causes an increase in the occurrence of slippage.
Since these announcements, news, and data releases can result in much more market movement than usual, it is typically recommended that you avoid trading during these events. The outcomes can be unpredictable and moving in to, or out of a position during these times can be very difficult at your desired price.
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Anthony is a financial journalist and business advisor with several years’ experience writing for some of the most well-known sites in the Forex world. A keen trader turned industry writer, he is currently based in Shanghai with a finger on the pulse of Asia’s biggest markets.