When you are looking for a broker to open an account and perform your trades, it is essential to know the advantages and disadvantages of the different types of brokers. There are three familiar brokers; ECN, STP, and Market Makers.
It can be hard to know the best forex broker to choose. There are so many of them, all with different offers and terms and conditions. This article will give you insight into what some of these terms mean and how they can affect your trading.
What Are Market Maker Brokers?
A market maker or liquidity provider is a company, or an individual, that quotes both a buy and a selling price in a financial instrument or commodity held in inventory, hoping to make a profit on the bid-offer spread or turn. The U.S. Securities and Exchange Commission defines a “market maker” as a firm that stands ready to buy and sell stocks or currencies regularly and continuously at a publicly quoted price.
A dealer is said to be making markets when it is continuously ready to buy (i.e., take the bid side of) or sell (i.e., take the offer side of) securities from/to other market participants, as opposed to just matching buyers and sellers. Market makers make money on the difference between what they pay for the security and what they charge for it (“the spread”). They also earn money by collecting interest on the funds deposited as margin by their clients, who use leverage when trading.
Market makers bridge the gap between retail traders and big institutions by providing liquidity on both ends of your trade. They offer services that help customers with their forex trading and eliminate the need for a middleman. The great thing about market makers is that they do not require a specific amount of money to begin trading. This is one of the main reasons why many new traders choose them over other types of brokers.
What Are STP Brokers (Straight Through Processing)?
STP brokers route all trading orders to the liquidity providers – banks or larger forex brokers. The STP model offers better trading conditions than Market Maker brokers, such as tight variable spreads, no requotes, and no dealing desk intervention in the client trades. STP brokers, also known as Straight Through Processing, operate on a model that doesn’t conflict with their client’s interests. Instead, they don’t act as counterparties to trades but send client orders directly to the market. This is sometimes referred to as A-booking and ensures that there is no broker intervention in the trade outcome.
In contrast, Market Makers make a profit by widening spreads and providing liquidity but can also create an “adverse selection” problem whereby traders who benefit from the broker’s loss are more likely to place their trades. STP brokers may only be able to offer fixed spreads due to their low trading margins, which are generally determined by the liquidity provider. In addition to not dealing against you and having fixed spreads, STP brokers may also have other features or benefits such as:
- No re-quotes
- No Dealing Desk (NDD) execution
- Leverage up to 1:1000
- Variable leverage depending on account equity and account type
- Trading platforms such as MetaTrader 4 (MT4), Ninja Trader or cTrader
What Are ECN Brokers (Electronic Communications Network)?
Electronic Communication Networks, or ECNs, were created to allow the interconnection of different financial trading entities. An ECN broker is a forex financial expert that uses electronic communications networks (ECNs) to give clients direct access to other participants in currency markets. For example, a large bank could be connected to an electronic network that allows it to exchange prices with all its customers.
Unlike market makers, ECNs do not operate as intermediaries in transactions between two clients. The ECN type allows the trader to trade directly on the real interbank market without intermediation. Brokers of this type are the only ones that do not have liquidity problems and do not experience any requotes because they are connected directly to banks that provide liquidity. In addition, they charge commissions on each transaction to cover their costs.
This means that when a client sends a buy order to an ECN broker, this order is sent directly to other clients who have placed sell orders at the same price, without the broker having any control over whether or not the deal will be completed. The same applies if you ask to buy and there is no offer at that price: your broker will not “print” money on your behalf and offer you an imaginary price!
What Should You Choose?
If you’re a small- or medium-sized investor looking to get into options or forex trading, you may be wondering what type of broker is best for your needs. There’s no correct answer. Each has its pros and cons, and they all have their strengths when it comes to serving different types of investors. The short answer is that it depends on your trading strategy and needs. If you’re planning on scalping or day trading, you might be better off choosing an ECN over other brokers. ECNs have tighter spreads but often charge commissions for every trade you make. STP can also be a good choice if commission costs are lower than spreads offered by ECNs.
As a forex trader, you want to trade with the best possible odds for success, regardless of your trading style. The use of technical analysis, sentiment analysis, and market sentiment can give you an advantage at times, but is all the information available in the financial world consistently accurate? There is no single correct answer to this question because no one has a crystal ball, but one thing is sure: having access to reputable data and forecasts can benefit your trading immensely.
The differences among ECN, STP, and market maker brokers are subtle, but in the end, it all comes down to their trading strategies. Thankfully choosing a broker based on goals and strategy, rather than labels or categories, is much easier than it sounds.