Few people understand what a ‘Forex Swap’ is and how it can either cost or make you money. It’s critical to understand how the swap can affect your account, especially if you hold trades for extended periods of time.
You may believe you understand all of the costs associated with Forex trading, but do you?
The carry trade, also known as the rollover fee, can be a significant expense in your trading.
What are the main Forex costs?
The three main costs to consider in the Forex market are the broker commission, the spread, and the swap.
The broker commission is a fee that the broker charges to facilitate trading.
The spread is the difference between the purchase and sale prices. Depending on the currency pair you’re trading, this spread may increase.
Normally, the majors or anything against the USD currency spread is quite tight. Of course, some exotic pairs (for example, EUR/HK$) received a 4 pip spread. Currency pairs that are not actively traded will have a wider spread. This is something to think about when deciding which currency pairs to trade.
Swap, also known as the rollover charge, is a fee charged by your broker for holding a position overnight. Why? Because the Forex market is open 24 hours a day, seven days a week.
Brokers close a daily candle and open a new candle every 24 hours. That’s why you get the candles every day.
Traders typically use the 5:00 PM New York close, but each broker can vary this by a few hours.
If you hold a trade position overnight through the 5:00 PM New York close, you may be charged a fee for the privilege. In some cases, you may even be compensated for holding that position overnight.
What effect do interest rates have on the swap?
The first reason that a currency pair moves up or down is due to interest rates. Interest rates determine how much it costs to borrow money and how much you receive in return for putting money in a savings account.
Inflation, employment, and other factors all influence interest rates. This is why, throughout the week, you should pay attention to the fundamental news in order to predict where the central banks’ interest rates will be in the future.
When we trade the Forex market with leverage, which is essentially a loan from the broker, we receive interest on the currency we buy but must pay interest on the currency we sell. If we buy a currency with a higher interest rate than the one we sold, we will be paid. This is referred to as a positive swap.
If, on the other hand, you buy a currency with a lower interest rate than the one you sold, you will have to pay interest, which is known as a negative swap.
Assume you’re trading the AUD/EUR, which is a long position. It means you’re buying Australian dollars and selling Euros. In this example, you would receive 0.25 percent interest on the Australian dollars and pay no interest on the Euros you sold. The swap is determined by the difference in interest rate levels, and it is classified as a positive swap. It means you get paid for holding that position overnight until the 5:00 PM New York candle.
How do you calculate the exact cost?
Most broker platforms have a calculator that can calculate the cost of holding your position overnight.
Assume you’re interested in a long-term position, such as the GBP/JPY. The swap charge for holding a position overnight is $2 per standard contract.
It doesn’t say much, does it? However, if you hold that position for a year, the salary will be more than $700.