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Slippage trading: forex practice

According to the book, 'Richer Than Buffett' the author Jacques Magliolo points out that, "Slippage is a fact of life in day trading. This is the differential between the price you see on the screen and the price at which your order is filled. In a rising market, you are likely to have a buy order filled higher than you anticipated, and in a falling one, you are likely to sell lower than you expected."

What exactly is slippage trading and why does it occur? Selling and buying involves a seller party and a buyer party. Slippage happens when no one is willing to take the deal on the other side of the transaction. Once an investor fill an order to buy, he or she has added to the buy demand in the market (oversupply) and pressure prices to go up. The opposite applies during selling.The time difference between the moment you sell and the moment someone else buy result in a different selling price. By the time an investor managed to acquire all the units he or she wants, the overall cost can be higher than the price they wanted. On the other hand, a slippage can also result from a fast moving market where brokers cannot execute the transaction in time.

The slippage amount can be anywhere from a few pips to a few tens of pips. Robert Pardo points out in his book 'The Evaluation and Optimization of Trading Strategies', "The slippage also depends on the type of the order placed, the size of the order, and the liquidity of the market." These are the possible situations an investor need to deal with where there were none before in a demo account.

Besides the usual slippage in trading, slippage can also take place between one trading day closing and its subsequent opening. On this, Pardo note that, "more often than not, these gaps are not all that large and their impact on trading is consequently not all that great. There are occasions, however, when these gaps are large because of significant economic or political events that occur when the markets are closed." A slippage of this kind can be either positive or negative.

What can one do when even a stop-loss order may have a possibility of 'slipping'? Fortunately, the forex market is huge and highly liquid and slippage is minimal. According to Marquez Comelab in his book 'The Part-Time Currency Trader', "...because of the currency market's efficiency, there are little or no 'slippage' costs. Individuals can trade more frequently at small costs because of lower transaction costs, minimum slippage and strong intraday volatility."

Slippage is rare unless one trade during news and high volatility periods. Its effect is more apparent in short term forex trading than in long term positions as it creates additional execution fee in trades. While some brokers are beginning to offer no slippage trading, this comes with its pros and cons.