Should I use an ECN or a dealing desk broker? This has been an immense question among retail Forex traders. A legit broker is extremely important to your trading business. You need to be informed about how brokers operate, the regulations, and how they quote you prices. After all, you are depositing your money with them. Better educate yourself on them, right?
The main points
- Types of brokers. ECN & Dealing desk
- Broker business model
- Qualifying a broker
Two common terms you will hear when it comes to Forex brokers are ECN & Dealing Desk brokers. A dealing desk is also known as a market maker. I said it.. The market maker, oh no!
An ECN stands for Electronic communication network. These networks help connect retail traders to the inter-bank network. Retail brokers will be connected to an ECN, which receives their quotes from a liquidity provider. The ECN is connecting you to other market participants which helps facilitate your trade.
A liquidity provider is a large institution who provides liquidity(bids/offers) to your broker. Down below are FXCM’s liquidity providers. FXCM is finding the best prices from their liquidity network to pass on to the retail trader.
Here are some other big liquidity providers in the Forex Inter-bank Network
Dealing Desk brokers, a.k.a, market makers, take the opposite side of your trade. Trading is a zero-sum game and someone has to take the other side of the trade. If you are buying, who is selling to you? If you sell, who is going to buy from you? If you think about the market makers role, they are exposed to both sides of risk.
If a market maker takes the opposite side of your sell(buy from you) and the market drops, they take a loss. They are exposed to directional risk.
How Do Brokers Profit?
Two important terms in Forex are the bid and the ask.
Bid: The bid price is the price the market is buying an asset. As retail traders, this is the price we would sell at. Why? Remember someone else takes the other side of the trade. If you want to sell, the bid is the price the market will buy from you
Ask: The Ask is the price the market is selling an asset. You will also see this called the offer. As retail traders, this is the price that we can buy. Why? If you want to buy and the ask is the markets offer price, that is the price you would
The difference between the bid and ask is called the spread. Brokers make money from the spread. Let's take a look at the EUR/USD in picture below(these are prices from Oanda)
The current bid(ask) for the EUR/USD is 1.0768(1.0769) with a 1.8 pip spread. Don’t get confused with the sell & buy above.
Remember, they are showing us the bid price when we sell and the ask price when we buy
There are two types of spreads:
Fixed spreads have a constant fixed spread between the bid & ask.
Variable spreads are always changing between the bid & ask.
Time to debunk the myth!
The infamous market maker! “Market Makers are out to stop hunt”
How many times have you heard that or even thought so yourself? It is a big misconception.
Now there are some illegitimate brokers that have shady business practices. We can’t feel bad for anyone who is gullible enough to use unregulated brokers. An illegitimate broker will give you a handful of problems with price, fills, slippage and more. That is not a market maker.
The role of market makers is to provide liquidity to the markets. Don’t confuse brokers with big Market Makers such as large banks/institutions. They are not out to get you, in fact the retail flow is so small compared to the overall market size. We are only 7% of the 6.6 trillion dollar market.
The majority of Forex traders end up blowing their accounts, so consequently brokers have no inclination to be deceitful.
When you are with a well regulated broker, the less likely you will have any problems. This is your business, treat it like one.
Researching the rating agency that governs your broker is extra important! Here are some quality regulations in different countries!
You can check the verification registry to see if they are regulated in the USA
- AFSL License(Australian Financial Services License)
Australia's ASIC registers search
These are just a few regulation agencies that are credible. Brokers with these regulations are safe and you can be comfortable knowing that your money is inside a regulated broker. You can go search brokers you’re looking at and see what regulations they follow. Another powerful tip is to search the team/brokerage on Linkedin.