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Account Types
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There are several types of Forex dealers with online access. They range from the perfectly legitimate brokerage firms to illegal betting houses. Each trader will have to choose their type of dealer carefully to select the right type of dealer – many share similar qualities and access to the Forex market, but their policies and procedures differ quite dramatically.
Beginning traders need to be especially vigilant about the type of dealer they select. Remember, the Forex market remains loosely regulated and this allows for a wide range of trading services that may not be suitable for many traders, particularly beginning traders.
Each type of broker represents a different level in the Forex market. Some levels are very high and have direct access to the Forex market while others are very distant and have very little connection to the Forex market. Yet most of these types of broker are legal in most countries and are used by different types of traders.
Retail Market Maker
These types of brokers represent the vast majority of online Forex dealers. They differ in many respects and offer a wide range of services. Most traders will use a retail market maker. They take different approaches in their connection to the Forex market. Some are directly connected while others deal with an intermediary for access to the Forex market.
Retail market makers are suitable for beginning Forex traders, but they should consider the services offered before making a selection. They are legal in the United States and most other countries.
Institutional Market Maker
These types of broker are very closely aligned with the Forex market. They have a more direct connection than most Retail Market Makers. They are very suitable for beginning traders, but usually require large amounts of money for direct access to the interbank market.
Institutional Forex
Institutional brokers are directly connected to the Forex market. This consists of a consortium of approximately 200 banks. It also represents nearly half of all Forex trading. This is not suitable for beginning traders since only banks are allowed to participate. If any broker claims to have direct access to the Interbank market, they are committing a fraud since only banks have this type of access.
The most appropriate type of broker for beginner traders is the Retail Market Maker. There are many different types of Retail Market Makers and they are easy to find. However, traders must closely investigate this type of broker to make sure that it offers the necessary services and that it does not engage in fraudulent activity. This is where it is important to work through a qualified introducing broker to find the best fit for your trading.
How Market Makers Work
Market makers "make" or set both the bid and the ask prices on their systems and display them publicly on their quote screens. They stand prepared to make transactions at these prices with their customers, who range from banks to retail Forex traders. In doing this, market makers provide some liquidity to the market. As counterparties to each Forex transaction in terms of pricing, market makers must take the opposite side of your trade. In other words, whenever you sell, they must buy from you, and vice versa.
The exchange rates that market makers set are based on their own best interests. On paper, the way they generate profits for the company through their market-making activities is with the spread that is charged to their customers. Spread is the difference between the bid and the ask price, and is often fixed by each market maker. Usually, spreads are kept fairly reasonable as a result of the stiff competition between numerous market makers. As counterparties, many of them will then try to hedge, or cover, your order by passing it on to someone else. But there are also times in which market makers may decide to hold your order and trade against you.
There are two main types of market makers: retail and institutional. Institutional market makers can be banks or other large corporations who usually offer a bid/ask quote to other banks, institutions, ECNs, or even retail market makers. Retail market makers are usually companies dedicated to offering retail Forex trading services to individual traders.
Pros:
- The trading platform usually comes with free charting software and news feeds.
- Some of them have more user-friendly trading platforms.
- Currency price movements can be less volatile compared to currency prices quoted on ECNs.
Cons:
- Because they may trade against you, market makers can present a clear conflict of interest in order execution.
- They may display worse bid/ask prices than what you could get from another market maker or ECN.
- It is possible for market makers to manipulate currency prices to run their customers' stops or not let customers' trades reach profit objectives. Market makers may also move their currency quotes 10-15 pips away from other market rates.
- A huge amount of slippage can occur when news is released. Market makers' quote display and order placing systems may also "freeze" during times of high market volatility.
- Many market makers frown on scalping practices and have a tendency to put scalpers on "manual execution", which means their orders may not get filled at the prices they want.
How Electronic Communication Networks or ECNs Work
ECNs pass on prices from multiple market participants, such as banks and market makers, as well as other traders connected to the ECN, and display the best bid/ask quotes on their trading platforms based on these prices. ECN-type brokers also serve as counterparties to forex transactions, but they operate on a settlement rather than pricing basis. Unlike fixed spreads, which are offered by some market makers, spreads of currency pairs vary on ECNs depending on the pair's trading activities. During very active trading periods, you can sometimes get no ECN spread at all, particularly in very liquid currency pairs such as the majors (EUR/USD, USD/JPY, GBP/USD and USD/CHF) and some currency crosses.
Electronic networks make money by charging customers a fixed commission for each transaction. Authentic ECNs do not play any role in making or setting prices; therefore, the risks of price manipulation are reduced for retail traders.
Just like with market makers, there are also two main types of ECNs: retail and institutional. Institutional ECNs relay the best bid/ask from many institutional market makers such as banks, to other banks and institutions such as hedge funds or large corporations. Retail ECNs, on the other hand, offer quotes from a few banks and other traders on the ECN to the retail trader.
Pros:
- You can usually get better bid/ask prices because they are derived from several sources.
- It is possible to trade on prices that have very little or no spread at certain times.
- Genuine ECN brokers will not trade against you as they will pass on your orders to a bank or another customer on the opposite side of the transaction.
- Prices may be more volatile, which will be better for scalping purposes.
- Since you are able to offer a price between the bid and ask, you can take on the role as a market maker to other traders on the ECN.
Cons:
- Many of them do not offer integrated charting and news feeds.
- Their trading platforms tend to be less user-friendly.
- Because of variable spreads between the bid and the ask prices, it may be more difficult to calculate stop-loss and breakeven points in pips in advance.
- Traders have to pay commissions for each transaction.
Which Type of Broker Should I Use?
The type of broker that you use can significantly impact your trading performance. If a broker does not execute your trades in a timely fashion at the price you want, what could have been a good trading opportunity can quickly turn into an unexpected loss; therefore, it is important that you carefully weigh the pros and cons of each broker before deciding which one to trade through. |
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Traders Network, LLC believes that customers should
be aware of the risks associated with over-the-counter,
spot Forex. Forex trading is highly speculative
in nature which can mean currency prices may become
extremely volatile. Forex trading is highly leveraged,
since low margin deposits normally are required,
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possibility of losing your entire cash balance
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to lose which will not dramatically impact your
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