When we are talking about slippage in forex trading, we are referring to the difference between the expected price of a trade and the price at which the trade is executed. Slippage has a chance to occur at any time however it is the most common during higher volatility periods when market orders are used more frequently. Another time slippage can occur is when a large order is executed, and there isn’t enough volume for the chosen price to maintain at the current bidding/asking price.
1. How does slippage work?
Slippage can be seen as a negative or positive movement since any difference between the expected price and the actual execution price is qualified as slippage. When we are executing an order, we are purchasing or selling at the most favorable price offered by the market at that specific time. The executed order can then be favorable, equal, or unfavorable in comparison to the expected price. In conclusion, the actual execution price can be executed with positive slippage, negative slippage, or no slippage.
The term slippage is used in most markets based on market prices changing quickly. These market conditions allow the slippage to occur during the delay between the trade order being executed and its actual completion. A good way to avoid negative slippage is to set a limit order. However, with a limit order, there is a risk that the trade doesn’t get executed if the price does not reach it. This risk is further increased during higher volatility market times and during session overlap times where market fluctuations occur faster.
2. Which currency pairs have the least slippage?
Under normal market conditions, the more liquid a currency pair is, the lower the chances for slippage to occur. For example, two such currency pairs are EUR/USD and USD/JPY. Keep in mind that during volatile market conditions during and around high-impact data releases, even these liquid currency pairs can encounter slippage. So whatever you do, don’t forget that important news releases and high-impact economic events can increase volatility drastically for the most volatile currency pairs as well as the most liquid currency pairs.
3. How to reduce the effects of slippage?
When trading, slippage is impossible to avoid completely. However, you can minimize it significantly by applying the following:
- Changing the market orders: The main way to avoid slippage is to make use of limit orders instead of market execution. The reason behind this is since a limit orders only get filled at your desired price. With some brokers, limit orders get filled at set prices or better prices. This means that the risk of negative slippage is completely negated.
- Not trading during and around high-impact economic events: Biggest slippage occurs during and around high-impact economic events, which means that it is important to monitor the economic calendar for news releases for the assets that you are trading. These news events can have a great effect on the direction in which the asset is moving. In addition, by not trading them, you can avoid highly volatile market times and the chance of high losses occurring.
- Trade highly liquid markets: An individual can limit slippage by trading in highly liquid markets. A low volatility market means that you will encounter smooth price action without any increased price movements. In addition, highly liquid markets have active buyers and sellers, which increases your chances of an order being executed at your expected price.
- Use a VPS: Traders can take advantage of VPS services to gain access to the best execution at all times. With a VPS server, you will also prevent technical issues such as internet connectivity problems, power cuts, and many other failures.
4. Slippage example
A common way for slippage to occur can be aggressive changes in the bid/ask price. As previously mentioned, a market order can be executed at a more or less favorable price compared to the expected price. Negative slippage means that the asking price increases when looking to execute a long trade or that the bidding price decreases when looking to execute a short trade. Positive slippage means the exact opposite, the asking price decreases when looking to execute a long trade, or the bidding price increases when looking to execute a short trade. A simple way to protect yourself from negative slippage is to avoid market orders and instead focus on setting limit orders.
XAU/USD price is $1791.44/$1791.67 on your trading platform.
A 100 contract size order is placed with the intention the order gets filled at $1791.67. Unfortunately, during the transaction, the bid/ask spread jumps to $1791.69/$1791.92. The order is filled at $1791.92, meaning that a negative slippage of $0.25 per contract or $25 per 100 contracts has occurred on the XAU/USD pair.
US30 price is $32866.20/$32867.70 on your trading platform.
A 10 contract size order is placed with the intention the order gets filled at $32867.70. Unfortunately, during the transaction, the bid/ask spread jumps to $32871.40/$32872.90. The order is filled at $32872.90, meaning that a negative slippage of $1.50 per contract or $15 per 10 contracts has occurred on the US30 index.
In conclusion, slippage in forex trading is the difference between the expected price of a trade and the price at which the trade is executed. We can encounter it mostly during times of higher volatility when market orders are used more frequently. Another thing to consider is that slippage can be positive or negative, meaning that it can benefit us or it goes against us. A great way to prevent negative slippage from occurring is to switch market execution orders for limit orders.
Have you ever been a victim of slippage in the past? Let us know in the comments below!