What is Slippage & Trade Execution? How To Reduce Slippage Forex Trading

By Tom Stewart on 26 April 2021
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What Is Slippage? Slippage Definition

What is slippage in trading? It refers to situations where the quoted trade price is different to the price that the trade is executed at. There are several reasons for slippage to occur. Slippage mostly occurs in highly volatile situations. These include large volumes of market orders which can alter the prices. The depth of market may not be sufficient at the quoted price, meaning that the order must then move to the next price to be filled, and so on. The other key reason for slippage is market volatility. Rapid changes in pricing may mean that filling an order at the quoted price is no longer possible. Slippage occurs in all financial markets, from currencies & equities to bonds & commodities.

Market Orders are the type of trade most susceptible to slippage. They are the most basic form of trading, involving when a trader buys or sells an asset at the current market price. It is typically represented by buy and sell order buttons on a trading platform. A trader buys at the ‘ask’ price and sells at the ‘bid’ price. The ask price will be higher than what the actual value of the asset is. The bid price will be lower. The difference between bid and ask price is what’s known as ‘spread. The spread exists for two reasons.

  1. This also allows brokers to minimise their risk from market volatility (price changes between you requesting a trade & them executing the trade). 
  2. Some brokers have a “spread markup”. This is where a spread is increased, so that brokers can make a profit on the pricing differences.

Spreads differ between brokers and it is important to find the lowest spread for the symbols you are trading. 

Slippage can either positively or negatively affect the current prices for a traders position. These are called positive, negative or no slippage when comparing quoted and final execution prices. If a trader wants to buy at the bid price, a decrease in value due to slippage would be beneficial as the trader would be paying less for the same position. When selling at the ask price, an increase in value due to slippage is beneficial as the trader as they would receive a higher return for the same position sold. 

What Increases the likelihood of volatility and slippage?

For Forex, commodities and cryptocurrencies, news is one of the main catalysts for increased volatility and trade slippage. Changes in global affairs or new economic data means that the markets need to price in new information, so the volatility is caused as traders look to find the appropriate price of the asset given the new information.The fast pace of price changes can often result in slippage, especially for market orders.

The other main factor that causes slippage is large position sizes. If you are trading large positions then you will likely receive slippage, due to your brokers depth of liquidity. The “Top of book” (the order size you can trade at the quoted price) varies depending on the symbol you’re trading and your forex broker, however larger position sizes may surpass the top of book, and need to be filled at the next quoted price. This is why liquidity is important for high volume trading, as some brokers offer deeper liquidity than others. 

Example of Slippage

Say for example, you want to buy XAUUSD. The bid and ask for XAUUSD is 1783.20 / 1783.95 for this broker. You place a market order for 1 XAUUSD contract at the asking price of 1783.95, however due to micro delays in the program and a highly volatile period, the ask price increased to 1784.00 You end up paying more for the same XAUUSD contract when you intended to buy at the initial asking price of 1783.95. This would add up to a difference of $5 USD. This would be identified as negative slippage. 

How to protect yourself from Slippage.

Some brokers offer tools such as fill or kill orders, that allow the order to be filled at the requested price or cancelled. Buy/sell stop limits are a tool that also allow you to be executed at the requested price or not at all. Entering the market with stop or limit orders generally improves slippage, and increases the likelihood of positive slippage as well. 

TradeProofer’s free MT4 software identifies slippage and notifies traders of when orders receives slippage. With TradeProofer’s MT4 software traders receive reports of where their order was executed in comparison to their brokers spread & also against the general market spread. See an example of TradeProofer’s Trade Reports below!

How To Reduce Forex Slippage

Trade Execution

Trade Execution is about the fulfillment of buy and sell orders. Using a trading account, the trader submits their order, which then goes to the broker that decides which markets to fulfill the order in. Once fulfilled, this is when the trade has been executed. As trades are not instantaneously executed, it is important to factor in timing as this is where slippage can occur. There are also various methods in which trade execution can be conducted affecting how much the trader ends up paying.

These include …

Electronic Communications Network (ECN)

This method of Trade Execution involves using a computer system to place orders, aggregating multiple liquidity streams to find the best possible price. It displays the best bid and ask prices comparing them against multiple markets. The flexibility of a computer system allows people from all around the world to easily and efficiently trade. In addition, order matching and execution can be automated. Most electronic trading brokerages offer ECN trading, as it is beneficial for both the forex trader and broker. This system typically reduces slippage, as the speed of the computerised system is faster than a human operated trading system.

Internalization

Internalization is when the trade execution process is handled by the broker as opposed to traded in the market. If the brokerage firm believes the asset will move in the opposite direction then the trader, they then may not open a correlated position in the market, and just take on the risk that the trader is wrong. This is called internalising the trade. The upsides are that it cuts down the costs of outsourcing benefiting the company and can also allow brokers to set a more competitive price for investors. This may be negative for the broker, as if the trader’s position closes in a profit the brokerage must pay the trader. The advantage of this type of execution is that trade execution is typically improved, as the broker does not need time to put the order into the market.

Other Ways to Reduce Slippage Forex Trading

It is possible to reduce slippage by changing the settings in your MT4 terminal. The “Deviation” setting in the MT4 terminal can prevent trades from being executed if the price deviates over a defined amount from the requested price. This setting only works for limit & stop orders. It is worth noting that the input for this is in points, not pips. A point is 0.1 of a pip (usually the 5th decimal place on most major forex pairs). 

Using TradeProofer To Monitor Slippage

TradeProofer produces a number of reports that let you easily monitor your forex trades slippage, and pinpoint where you most commonly experience slippage. See your most commonly traded symbols and easily check your slippage performance for the week. TradeProofer’s proprietary AFTR-Trade technology lets you easily check your trade execution against your broker and the market, and see what happened to price in the seconds before and after your trade was executed!

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