Something to read

Spreads play a significant factor in profitable forex trading. When we compare to the average spread to the average daily movement many interesting issues arise. Namely, some pairs are more advantageous to trade than others. Secondly, retail spreads are much harder to overcome in short-term trading than some may anticipate. Third, a "larger" spread does not necessarily mean the pair is not as good for day trading when compared to some lower spread alternatives. Same goes for a "smaller" spread - it does not mean it is better to trade than a larger spread alternative.

Establishing a Base Line
To understand what we are dealing with, and which pairs are more suited to day trading, a base line is needed. For this the spread is converted to a percentage of the daily range. This allows us to compare spreads versus what the maximum pip potential is for a day trade in that particular pair. While the numbers below reflect the values in existence at a particular period of time, the test can be applied at any time to see which currency pair is offering the best value in terms of its spread to daily pip potential. The test can also be used to cover longer or shorter periods of time. These are the daily values and approximate spreads (will vary from broker to broker) as of April 7, 2010. As daily average movements change so will the percentage that the spread represents of the daily movement. A change in the spread will also affect the percentage. Please note that in the percentage calculation the spread has been deducted from the daily average range. This is to reflect that retail customers cannot buy at the lowest bid price of the day shown on their charts.

# EUR/USD
Daily Average Range (12):105
Spread: 3
Spread as a percentage of maximum pip potential: 3/102= 2.94%

# USD/JPY
Daily Average Range (12):80
Spread: 3
Spread as a percentage of maximum pip potential: 3/77= 3.90%

# GBP/USD
Daily Average Range (12):128
Spread: 4
Spread as a percentage of maximum pip potential: 4/124= 3.23%

# EUR/JPY
Daily Average Range (12):121
Spread: 4
Spread as a percentage of maximum pip potential: 4/117= 3.42%

# USD/CAD
Daily Average Range (12):66
Spread: 4
Spread as a percentage of maximum pip potential: 4/62= 6.45%

# USD/CHF
Daily Average Range (12):98
Spread: 4
Spread as a percentage of maximum pip potential: 4/94= 4.26%

# GBP/JPY
Daily Average Range (12):151
Spread: 6
Spread as a percentage of maximum pip potential: 6/145= 4.14%

Which Pairs to Trade

When the spread is placed into percentage terms of the daily average move, it can be seen that the spread can be quite significant and have a large impact on day-trading strategies. This is often overlooked by traders who feel they are trading for free since there is no commission.

If a trader is actively day trading and focusing on a certain pair, making trades each day, it is most likely they will trade pairs that have the lowest spread as a percentage of maximum pip potential. The EUR/USD and GBP/USD exhibit the best ratio from the pairs analyzed above. The EUR/JPY also ranks high among the pairs examined. It should be noted that even though the GBP/USD and EUR/JPY have a four-pip spread they out rank the USD/JPY which commonly has a three pip spread.

In the case of the USD/CAD, which also has a four-pip spread, it was one of the worst pairs to day trade with the spread accounting for a significant portion of the daily average range. Pairs such as these are better suited to longer term moves, where the spread becomes less significant the further the pair moves.

Adding Some Realism

The above calculations assumed that the daily range is capturable, and this is highly unlikely. Based simply on chance and based on the average daily range of the EUR/USD, there is far less than a 1% chance of picking the high and low. Despite what people may think of their trading abilities, even a seasoned day trader won't fair much better in being able to capture an entire day's range - and they don't have to.

Therefore, some realism needs to be added to our calculation, accounting for the fact that picking the exact high and low is extremely unlikely. Assuming that a trader is unlikely to exit/enter in the top 10% of the average daily range, and is unlikely to exit /enter in the bottom 10% of the average daily range, this means that trader has 80% of the available range available to them. Entering and exiting within this area is more realistic than being able to enter right in the area of a daily high or low.

Using 80% of the average daily range in the calculation provides the following values for the currency pairs. These numbers paint a portrait that the spread is very significant.

* EUR/USD
Spread as a percentage of possible (80%) pip potential: 3/81.6= 3.68%

* USD/JPY
Spread as a percentage of maximum pip potential: 3/61.6= 4.87%

* GBP/USD
Spread as a percentage of possible (80%) pip potential: 4/99.2= 4.03%

* EUR/JPY
Spread as a percentage of possible (80%) pip potential: 4/93.6= 4.27%

* USD/CAD
Spread as a percentage of possible (80%) pip potential: 4/49.6= 8.06%

* USD/CHF
Spread as a percentage of possible (80%) pip potential: 4/75.2= 5.32%

* GBP/JPY
Spread as a percentage of possible (80%) pip potential: 6/116= 5.17%

With the exception of the EUR/USD, which is just under, 4%+ of the daily range is eaten up by the spread. In some pairs the spread is a significant portion of the daily range when factoring for the likely possibly that the trader will not be able to accurately pick entries/exits within 10% of the high and low which establish the daily range. (To learn more, see Forex Currencies: The EUR/USD.)

Final Thoughts

Traders need to be aware that the spread represents a significant portion of the daily average range in many pairs. When factoring likely entry and exit prices the spread becomes even more significant. Traders, especially those trading on short time frames, can monitor daily average movements to verify if trading during low volatility times presents enough profit potential to realistically make active trading (with a spread) worthwhile. Based on the data the EUR/USD and the GBP/USD have the lowest spread-to-movement ratio, although traders must update the figures at regular intervals to see which pairs are worth trading relative to their spread and which ones are not. Statistics will change over time, and during times of great volatility the spread becomes less significant. It is important to track figures and understand when it is worth trading and when it isn't.

How to Make Money in Stocks by William O’Neil

This is a classic by William O'Neil, describing the ins and outs of his CANSLIM system for finding future big winners in the stock market and how to time entries and exits. It combines fundamental and technical analysis and is a good guide for new investors.

One Up On Wall St
by Peter Lynch

This is an investment classic that will give the individual investor hope. Peter Lynch explains how Wall Street may not be able to find the best investing opportunities from the start and shows step-by-step how the individual investor can find the next ten-bagger.

The Warren Buffett Way by Robert Hagstrom

This book sheds insight into the ways and means of the Oracle of Omaha. Warren Buffett's thoughts are insightful and his methods may yield fruitful rewards for investors with enough patience to learn them, understand them and apply them correctly.

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More books are here

Reminiscences of a Stock Operator by Edwin Lefèvre

This book is a true page turner. It is a breath-taking recount of how a young boy managed to amass one of the largest fortunes by speculating despite going broke a few times in his career. He has timeless advice for investors("I've always made my money from sitting, not thinking") which will help your trading for years to come.

Market Wizards by Jack Schwager

This book is a collection of interviews of a group of successful traders in the 1970s/80s. Their experiences are interesting to hear and traders may draw useful lessons from them. However, some of them were successful only because they were in the right place at the right time. The 1970s were a great commodity bull market and some of them profited from it. Nevertheless this is a classic to read and enjoy. Jack's latest book, Hedge Fund Market Wizards, is also a fantastic read.

Investment Guide to Proper Portfolio Allocation

New and experienced investors alike should have a set strategy for portfolio allocation as far as the number of total holdings. The key to determining how many stocks should be held at once lies in knowing how much money is in the portfolio. This guide will breakdown the best rules for portfolio allocation.

Here on StockTradingToGo we support a more focused portfolio versus having a list of different holdings. Even for investors that want to remain diversified there are great ways to do so through ETFs so that the overall number of holdings can remain minimal. A simplified portfolio also supports investment success through discipline.

Portfolio Holdings Breakdown

Based on the total portfolio size total number holdings should follow this general diagram:

• Less than $4,000 = 1 stock / position
• $4,000 - $10,000 = 1 - 3 stocks / positions
• $10,000 - $20,000 = 1 - 5 stocks / positions
• $20,000 - $500,000 = up to 6 or 7 stocks / positions
• Great than $500,000 = 10 - 15 stocks / positions depending

This model follows the philosophy of William O'Neil and CANSLIM investing. CANSLIM investing is the most widely known investment strategy and there are great investment books that breakdown its key concepts.

Promoting Successful Investing

Investors that maintain a focused number of portfolio holdings are promoting successful investing in several important ways.


1. Concentrated Returns
Returns that are focused in several positions versus many positions are higher overall. To explain this concept here is a basic comparison:

Focused Returns: Investor holds 1 stock that goes up 10%, total return in the portfolio is 10%.
Non-Focused Returns: Investor holds 4 stocks and one goes up 10%, total return in the portfolio is 2.5% (.25 x .1).


This is a very simplified example but nonetheless reveals important results. And for those investors who argue the downside is just as substantial please read our guide for stop loss orders.


2. Lower Trade Commissions
Unless engaged in free stock trading it is smart to keep commissions to a bare minimum. Even with discount brokers trading smart versus often can save investment capital. In a $1,000 portfolio for example ten trades at $9.99 would equate to $100 or 10% of the entire portfolio!


3. Promoting Disciplined Investing
The goal for any investor should always be to buy the best possible stocks to own versus playing the "hit or miss" game. Successful investors will take a list of several hundred stocks and narrow them to a handful before making a final choice. This practice ensures that the highest probability of wining is realized at all times.

Diversified Investing Through ETFs

Through the use of exchange traded funds investors can still have a focused portfolio and remain well diversified. Diversification does not have to be ignored with a focused portfolio.

ETFs allow an investor to purchase an investment vehicle for replicating the performance of a whole sector or index without having to physically purchase a basket of individual stocks. Here on the site we have broken down a majority of the ETFs currently available in the stock market:

• 40 Inverse ETFs For Bearish Investors
• 24 Ultra Long ETFs For Bullish Investors
• Beginners Guide to Currency ETFs

ETFs also have low management fees. In fact, the average management fee for an ETF is under 1% per year. Compare this to the extensive costs of mutual fund fees (further education: mutual fund loads) and ETFs become a fantastic alternative.

This opens the door to endless possibilities for diversified investors.

Fooled by Randomness by Nassim Taleb

This book, which would go along well with "The Black Swan", explains the author's thoughts about how randomness plays a larger role in our lives than we expect. For traders, this would imply that risks are usually large than we expect. Also, it would mean that some things in the financial world aren't exactly what they seem

India's forex reserves jump by $2 billion

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MUMBAI: India's foreign exchange (forex) reserves jumped by $2.03 billion to $277.38 billion for the week ended September 20, the biggest weekly gain in nearly two years, on the back of concessional swap facilities offered to banks by the Reserve Bank of India (RBI).

The forex reserve has increased sharply for the second consecutive week. It had jumped by $544.7 million in the previous week.

According to RBI's Weekly Statistical Supplement, the country's foreign currency assets, the biggest component of the forex reserves, increased by $1.97 billion to $249.22 billion for the week ended Sep 20.

The foreign currency assets, expressed in the US dollar term, include the effect of appreciation or depreciation of non-US currencies held in reserve, such as the pound sterling, euro and yen.

Analysts say the concessional swap facilities offered by the RBI to banks was the main reason for such a sharp increase in the forex reserve. The RBI had announced the concessional swap facilities Sep 4, with a view to support the battered rupee.

Under the new facilities, commercial banks can swap dollars raised through foreign currency non-resident deposits and overseas forex loans with RBI at a discount to the market swap rate.

The special drawing rights (SDRs) increased by $38.3 million to $4.42 billion, while reserves with the International Monetary Fund ( IMF) rose by $17.4 million to $2.01 billion.

The value of India's gold reserves remained unchanged at $21.72 billion during the week under review.

Trader Vic---Methods of a Wall Street Master by Victor Sperandeo

The view the author has is slightly biased in favor of the Austrian School of Economics. Some of his methods are novel---you wouldn't see them in most books on trading (for instance, his measuring the average length and magnitude of a bull/bear market's primary and secondary trends, there by gauging the odds for a change in the trend in the market). His views on investor psychology are also interesting to read.