Forex trade slippage refers to the difference between the intended price of an order and the actual price at which it is filled. The discrepancy happens in volatile markets, in periods of low liquidity and in response to news releases. Slippage can impact trading outcomes and profitability, so traders must understand slippage and manage and mitigate the risk.
In this article, Benzinga explains slippage trading in Forex and how to manage the risk.
What Is Slippage in Trading?
Slippage in trading is the difference between the expected trade price and the actual price on order execution. Most severe in fast-moving or volatile markets, slippage can also occur when a large order is placed with insufficient stock to support the bid price. Trade slippage is common in all financial markets, including stocks, bonds, futures and forex. Trading slippage can work in favor of or against the trader.
High market volatility, economic news releases and low liquidity can all cause price slippage. Slippage affects retail traders and institutional investors, but the impact is often higher for large orders.
Market prices can quickly change. When this happens, the price when the order is placed and when it is executed may differ. Whether positive or negative, this is known as slippage. It is a normal part of forex trading, so traders should understand its potential impact and factor it into their trading strategies and risk management.
What Causes Slippage?
Trading slippage occurs when orders aren’t executed at the requested price because of market dynamics. Markets involve buyers and sellers. In a balanced market, the number of buyers and sellers with matching prices and trade sizes are equal. When there is an imbalance between the number of buyers and sellers, price movements can occur in either direction. Order execution may go through at a different price than expected.
Several factors contribute to price slippage in the forex market. These factors include market volatility, order size, liquidity and the order process speed. Brokers should help to manage price slippage by providing different order execution types like market orders, limit orders and stop orders.
Traders can minimize slippage by trading during more liquid and less volatile periods and using the appropriate order type.
Types of Slippage
You may see three types of price slippage:
No Slippage
No price slippage occurs when the order execution happens at the exact price you anticipated when placing the order. It is virtually impossible to eliminate slippage in any financial market, including forex. Slippage is a natural phenomenon that occurs as a result of supply and demand. The time delay between order placement and execution, particularly in volatile markets, causes slippage.
Positive Slippage
Positive slippage occurs when the trade is executed at a better price than the trader requested. Positive slippage allows the trader to enter or exit a position at a more favorable price, resulting in potential profit improvement.
Negative Slippage
Negative slippage occurs when the trade is executed at a worse price than the trader intended. Negative slippage can lead to losses. Limit orders can prevent negative price slippage, but traders run the risk that the order won’t be executed at all if the price doesn’t revert to the limit level.
Why Forex Traders Should Care About Slippage
Slippage costs can significantly impact a trader’s performance and profitability. Positive slippage results in better trade prices and higher profits. Negative slippage can lead to larger losses than anticipated. The difference between the expected and actual execution prices can impact a trader’s bottom line, especially for larger orders.
During periods of high volatility or low liquidity, the market may experience rapid movement. The result may be orders filled at prices significantly different from the prices the trader intended. Price slippage can affect the overall effectiveness of trading strategies, especially for short-term or high-frequency traders.
Some trading strategies may be more susceptible to slippage than others. For instance, scalpers who aim to make small profits on small price movements may be more affected by slippage because of frequent trade entries and exits.
Slippage can affect stop-loss order effectiveness. If the stop-loss order execution takes place at a worse-than-expected price, losses can increase. Traders must ensure adequate protection against adverse price movements when setting stop loss levels.
How to Avoid Slippage in Forex
Traders can manage risk and avoid slippage costs by trading in the appropriate order type and avoiding major economic events. The choice of broker can also influence slippage. Some brokers may have better order execution practices and provide lower slippage rates than others. Traders should research and choose reputable forex brokers known for fair and efficient order execution.
Change the Type of Market Orders
One way to mitigate risk is to change the type of orders used for forex trade. Market orders are immediately executed, often resulting in slippage. You can avoid slippage by using limit orders instead. Brokers execute a limit order at a set price. Your order will execute if the market moves to the preset price or better. The downside of limit orders is that the trade may not happen if the price fails to reach the specified level.
Placing a guaranteed stop loss is also worth considering, as it will ensure you don’t lose more than you can afford because of price slippage.
Avoid Trading Close to Major Economic Events
Slippage often occurs when major economic news is released. This news may cause market liquidity to drop and spreads to widen significantly. Track the economic calendar to identify when economic news about the asset you plan to trade is due to break. By avoiding trading when price volatility is likely, you can reduce the impact of slippage.
Use appropriate risk-management measures like limit orders if you decide to trade during major economic events.
Adopt Strategies to Avoid Slippage
Forex slippage is an integral part of forex trading. Slippage can have both positive and negative impacts on a trader’s performance and overall profitability. Market conditions, low liquidity and order processing delays can all cause slippage. While it isn’t possible to eliminate slippage, traders can adopt strategies that minimize its effects. Traders should use limit orders and trade during less volatile periods. Order execution delays cause slippage and can be costly.
Choose a reliable broker with an efficient trading platform that quickly executes orders.
Frequently Asked Questions
Is higher or lower slippage better?
In forex trading, lower slippage is generally considered better for traders. Lower slippage means that there isn’t much difference between the expected and actual trade prices.
Do you lose money on slippage?
Traders can lose money on trade slippage. Slippage can be positive or negative, resulting in gains or losses.
What happens if slippage is too high?
If slippage is too high, traders can lose a lot of money. Traders can use limit and stop orders to manage the risk of slippage.
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About Anna Yen
Anna Yen, CFA is an investment writer with over two decades of professional finance and writing experience in roles within JPMorgan and UBS derivatives, asset management, crypto, and Family Money Map. She specializes in writing about investment topics ranging from traditional asset classes and derivatives to alternatives like cryptocurrency and real estate. Her work has been published on sites like Quicken and the crypto exchange Bybit.