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Understanding the three main type of Forex Brokers

Understanding the three main type of Forex Brokers

Forex has an average volume of $4 trillion per day that makes Forex the world’s largest and most liquid financial market. However, for foreign exchange trading, there is no central market. Each dealer must decide for himself a brokerage.

The positive news is that there are plenty of brokers out there, supplying Forex traders with various possibilities and facilities. Most of them also use the best trading platforms such as MT4 and MT5. If you decide where to make your trades, you must complete the best choice.

You can make an informed selection with this article. From the three main types of brokers and their most recognizable features to the most common Forex trade-styles, we cover everything you need to know.

Three main types of forex brokers

As strange as that sounds, forex brokers are like restaurants. New customers don’t just know what they’re going to order immediately. It would be best to look at the menu to see what plates the food serves before making a selection.

With brokerage companies, things are quite similar. Everyone appears to offer the same essential services and products at first glance and most of them frequently utilize MT4 and MT5 trading platforms. Look at their “menus” closely, and you will inevitably notice that they work differently.

You can have a significant impact on your Forex experience by your type of broker. Below are the three major Forex brokerage types based on their operating principle.

Dealing Desk (DD) Brokers or Market Makers

When you check out a Forex Broker, you need to be careful to see whether a dealing desk is available. This term was a relic from the beginning when financial institutions had real desks with analysts and brokers responsible for all trading activities.

A dealing desk broker accepts customer trades without trading on the underlying markets. It provides its customers with liquidity and profits from the offer/ask it transfers into business.

These brokers are called market makers because they make markets for their customers that contribute to the Forex industry’s overall liquidity. The other side of the trade of a market manufacturer is often taken by itself. While this appears to be an interest conflict, it is not.

These brokers determine their market prices, offer traders quotes, and complete their orders. They can afford fixed spread because market makers do not influence external liquidity providers’ exchange rates. In this case, too, there are no consequences for individual customers’ decisions. Customers do not have direct access to the current interbank prices.

However, this should not be a cause for concern. Market makers are competing so hard that the prices they set fall shockingly close to the interbank market prices. Here’s an example of the functioning of the whole process.

Suppose you order the GBP/USD pair with a market manufacturer for 100,000 units. The manufacturer must first comply with a sales order from another customer to fulfill this buying order. You can also transfer your GBP/USD trading to an asset selling and purchasing provider.

This contributes to reducing the market maker’s risk by profiting from the bid/ask expansion without actually taking the opposite side of GBP/USD (a process known as hedging). However, if the market manufacturer fails to fulfill your order, it will only take care of you.

Straight Through Processing or STP

No dealing desk (NDD) brokers are part of the second major category. As the names imply, brokerages such as banks, hedge funds, mutual funds, other clients, and even other brokers have no deals. They act as intermediaries between traders and other market participants.

In this case, hedging is unnecessary because brokers from NDD receive their interbank market price quotes. Orders of customers are directly connected to the liquidity providers listed above. When entering a position, NDD brokers typically charge their traders nominal commissions. The other option consists of adding a markup by tweaking the stretch a bit.

The first is the Straight Through Processing type (STP). There are two types of NDD brokers. These brokers are working with several providers of liquidity that can access the interbank market directly. Each liquidity provider makes its quotation and requests prices, respectively.

An example of how it works is given here. For example, suppose that your STP broker is connected to three different liquidity providers, each with other GBP/USD quotes.

Electronic Communication Network (ECN) Brokers

Brokers of the ECN also fall under the category of NDD brokers. E-Network Communications (ECN) The difference here is that they allow their customers to interact with other electronic communications network participants.

The participants may be banks, other retail traders, hedge funds, and other brokering companies. All these trade by providing your own tendering and tendering rates. ECN brokers do not, therefore, take positions contrary to their traders. If the dealer cannot find an agreement at the respective price quoted, he will either send the dealer an order or altogether reject his demand.

A deal in an ECN brokerage requires a significant initial investment since only large numbers are bothered by most of these market participants. Minimum accounts usually require between $1,000 and $50,000 capital.

Another difference is that ECN brokers give their customers access to market depth, which indicates where the other participants place their offers/ask orders. Because it is challenging to establish a fixed markup on trades under these circumstances, an ECN broker would generally charge a small fee.

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