Having the right broker is crucial to your success as a Forex trader, and finding one is something that deserves a lot of time and care. The Forex markets are available for trading through a number of pricing levels. The Inter-Bank Market provides the greatest levels of access, but it is reserved for the big players such as banks, corporations, large funds and other organizations that regularly deal in large currency transactions.
For the small individual trader, the only option is to work with a retail broker who connects smaller players to its trading platforms. The problem is that this market does not have the stringent regulations of the higher level operations and unscrupulous brokers have been known to use unethical means to manipulate a person’s trades so as to increase their profit at the expense of the individual. It is important to check out the reputation and track record of any broker you intend to use.
Basically, there are two types of brokers – those with dealer desks called Market Makers and those that employ Electronic Communication Networks (ECN). Each has its pros and cons.
The most common type is the market maker who functions as an intermediary to the inter-bank market. They do not have direct access to the market. They operate by trading large blocks of currency on the inter-bank market and then breaking this up into smaller units for the individual traders. The problem here lies in the fact that there is a conflict of interest. When you make a trade and lose money, it goes to the broker. Many traders believe that their brokers make their profits from the trade spreads, which is only partially true. Your loss is their gain.
Market makers control their own currency pool which allows them to dictate the price feed (bid / ask), which creates the following problems:
• Prices may not be competitive because they are single sourced – you need to accept what the broker offers you. Unscrupulous brokers may spike prices to trigger your stops as well as manipulating your spreads as you are about to begin a new trade.
• Brokers are able to manipulate the price spread in a wide range because they generate a portion of their profits from its width.
• Re-quoting can be a problem as well and comes into play when you are about to place an order. Your trade intention is exposed when you click on buy or sell to ask for an accurate quote. An unethical broker is now aware of your intentions and can sometimes issue a quote worse than the one that the current market supports.
• Re-quotes can also occur under dynamic conditions when the market quickly moves away from the quoted price. Delays in execution of the new trade, causing you a loss or lower profits, can happen as a result. Your chosen broker should be able to supply you with an order close to the price quoted. If you experience too many re-quotes then you need to try out other brokers.
This does not mean that market makers are to be avoided. There are good ones as well as bad. The ethical ones strive for a long-term mutually profitable relationship with their clients and treat them fairly, while the unscrupulous ones will try to rip you off in ways that are difficult to spot. Taking time to find the right market maker is an investment that is essential to your success. If you have doubts about a broker, do not hesitate to change to another.
Electronic communications networks on the other hand offer direct access to the inter-bank markets. This means they have access to multiple banking sources and are better placed to offer competitive price quotes.
Additionally ECNs offer real time quotes from a number of large banks. However, the processes fluctuate rapidly and may not be as stable as those offered by market makers. ECN’s prices and spreads are more competitive because they use multiple sources. And most importantly, they are not competing against their own clients for the profits and so have no vested interest in the trade results. There is no conflict of interest, which means there is little reason for them to use any unethical price manipulation tactics.
The number of ECN brokers has been increasing because of the growing popularity of the retail Forex market.
