Things to know when choosing a broker

outofphase

Private
Messages
37
This is for all those who are trying to make sense of all the marketing nonsense they find on countless broker websites. I will summarize the key points in a short list of what you must know in order to feel confident you are trading with the right broker.

1- Know the terminology and what it means:

STP is not ECN.

STP or ECN does not mean that your broker is not taking the other side of your trade. This can be easily and clearly verified by going to Dukascopy's site where they explain what ECN means and what to expect in terms of execution (which liquidity is going to be used to match your trade). In all fairness, it is the only retail broker I have seen so far who openly admits that you orders could be executed against Dukascopy's own liquidity, or another client, or passed through to an external LP (Liquidity Provider).

STP means that your order is passed through the broker's system and on to a liquidity aggregator (such as the one built by PrimeXM, for example) to be matched against whatever liquidity is posted there, on the aggregator's book. (Book means a list of all sell/buy orders with size currently active in the system at their respective price levels).

A liquidity aggregator is just a piece of software that connects to the computer systems of other brokers, banks, ECNs (institutional), market makers (XTM, for example) and brings all this liquidity into its own book for the broker's backend system to view and control how and which client gets routed to what liquidity. Or all clients get routed to any liquidity, as in the best price wins. It's up to how the broker decides to configure the aggregator.

ECN: to understand this, just think about how a Futures or Stock exchange works. Same thing here except that each ECN (called MTF in Europe, which is what LMAX has built in-house) is like an island onto itself, meaning that because broker A runs its own ECN, and broker B does also runs its ECN, it does not mean the liquidity on each ECN is visible from the other ECN. Each ECN thus maintains it's own internal order book, or depth of market (DOM) and thus, the volume (or liquidity) at each price level on an ECN has no or little similarity to the actual volume on the same price levels on the institutional ECNs, , which determines the actual FX flows (EBS, 360T GTX, HotSpotFX, FXAll, Integral's OCX, FastMatch, Currenex (but careful with Currenex as it can be white labeled and configured to act as a market maker for retail brokers, and some brokers use this to deceive retail clients in believing they are given access to an institutional ECN when in fact they only trade with the market maker).

Therefore, yes, it's nice that cTrader has a built-in DOM, but it's totally useless if one wants to gauge the actual order flow since the cTrader DOM will only show what volume is actually on the broker's system. So no useful flow or volume analysis possible as on the Futures market, for example.

Fortex is another technology provider and they offer a nice platform. But I haven't seen one retail broker that uses their aggregator also offer direct access to the Fortex underlying ECN. It's always MT4 or MT5 or cTrader on top. Same goes for PrimeXM, which offers a nice professional web UI, but guess what: of all the retail brokers using the PrimeXM aggregator, not one let's their clients use the PrimeXM web UI.

Now that the basics are out of the way, let's look at why you would want to get STP or ECN trading conditions.


2- Advantages of STP:

If implemented honestly, STP means your orders are not matched against the broker's own liquidity, that is, the other side of the trade is never your broker but whatever entity that has a matching order on the aggregator.

So technically, you don't trade against a market maker. BUT this is not necessarily the case since order flow from clients can be categorized and routed accordingly, even if the orders are processed via a STP mechanism. In other words, LPs (such as electronic market makers) could pay the broker to receive this order flow and execute against, just like what happens with the order flow from the retail clients at discount stock or futures brokerages, which get routed to HFT traders or market makers. The execution venue being simply the broker's aggregator. The only broker I know of that refuse to sell its clients' order flow is Interactive Brokers (10K/USD minimum required to start playing).

But in theory, the broker is not trading its own liquidity, ie money, against you. Although, if they systematically pass your order flow Straight Through to a 3rd entity that always receives this broker's client orders and the broker owns or partly owns that 3rd entity, well then, you are trading against your broker. Look up the FXCM scandal and what brought them down in the USA. In spite of all the NDD (Non Dealing Desk) claims, that is exactly how they were operating. Same applies to GlobalPrime (AUS) who passes on all client order flow to its parent company, GlenEagle (if I remember correctly), and I think GBE does the same as well. In fact, they probably all do to some extent since they don't make enough money from the volume generated by retail client trading. And since both entities have a direct interest in not losing money, they can do whatever with the price feed and order execution (more on that later).

3- Advantages of ECN:

ECN, if you have the proper software, let's you trade just like on an exchange. This means you can both be a liquidity consumer and a liquidity provider. In other words, all retail brokers today only offer you the option of being a liquidity consumer, that is, every time you place a buy/sell order, you rely on some other entity to have made liquidity available to you so your order can execute at your chosen price level. One notable exception in the retail space that offers this kind of trading conditions: Dukascopy.

But what good is it to also be able to be a liquidity provider on the ECN, you ask?
Answer: if all the broker's clients are allowed to be liquidity providers to each other, it means that anyone can place a resting order (limit order) inside the spread (also called to go on the bid/offer at the inside market), thus helping make the spread smaller (spread improvement; ok ok, I guess nobody cares about this with EURUSD since most feeds nowadays offer 0.1 or 0.2 spread, but think about the difference this would make on pairs where you get a 1.2 pip or more spread).

Not only that, but an ECN should come with a DOM, and if it is a proper DOM, you should see 20 levels deep where all the liquidity is resting. Let's say now that you want to buy 50M (millions) or 500 lots of GBPJPY and your broker is only showing 1M available at each price level for the next 20 levels and let's say each price level is 1 pip away from the next (I know, not realistic, but to make it easy to understand).

So let's say we see at 140.00 - 1M, 140.01 - 1M, 140.02 - 1M, and so on, 140.49 - 1M being the last level--if you add up all the 1M from 140.00 to 140.49 you get a total of 50M in volume or liquidity. To get your 50M order filled, your order would need to be matched against each price level that has 1M available in liquidity. So, the order will not get matched in its totality at 140.00, but will be partially matched at each subsequent level, and you will complain about the huge slippage.

So, if you could see the actual liquidity available on the DOM, in this scenario, you will know that if you don't want slippage, then you should not trade 50M in one go. That's another advantage of being on a real ECN with a real DOM.

Now let's say you still want to trade all of your 50M at once (500 lots, that's 50M notional, money in the market that leverage gives you, not your own money). And let's say that by pure chance, there's another trader who suddenly appears and posts a limit sell order of 46M at 140.04. Now you know you can send your buy order at 140.00 and expect only 4 pips of slippage (1M matched at 140.00, and 49 of you 50 left to go; by the time it gets matched for 1M each at 140.01, 140.02, 140.03, you have 4M matched and 46M left to match, which will be at 140.04 where there is the limit sell order for 46M + the original 1M that was already there as per the scenario above).

ECN also means there is no dealing desk and thus execution should be as fast as your internet connection allows depending how far you are located from the trading servers (ping time should in ms and less than 50 ms, the smaller the better).

That being said, if your broker does not have enough clients to post liquidity at all price levels, or can't source enough external liquidity from regular LPs, but if the broker has enough capital, then of course, the broker could go on the ECN to fulfill your order by taking the other side --> immediate conflict of interest if the broker doesn't hedge this position properly. We'll come back to that in a moment.


3- Order types:

A true ECN environment will let you specify more order types than just marker, limit, stop, stop limit. OCO, FOK, AOI) look it up on Investopedia.com), orders, but also iceberg orders (not relevant to the small size retail traders though), and linked orders dependent on specific conditions of execution of another order or time conditions.


4- Platforms:

Now you see that the vast majority of retail brokers do not offer anything close to this in spite of all the marketing. Also, how could they when the software apps they offer do not support the functionality required to trade on an ECN?

One way around this is to pay a monthly fee to get access to a FIX connection using a trading app compatible with FIX: this is how professional trading apps talks to broker servers, using the FIX protocol (there are other protocols, but FIX is the most commonly used). If your broker allows this, then any of the Futures trading platform and the professional level tools they offer become suddenly available, not to mention all the algo development tools.

But again, this is only useful if your broker has a tick server running, and has an ECN that you can connect to via FIX. Otherwise, you would just be using a nice tool to talk to the same Metaquote server that MT4/5 connects to, and that server tech is really bad. That is why there are some many bridge providers (ZeroOne, PrimeXM, etc) because Metaquotes software was never designed for the professional market and can't connect in a performant way to the institutional aggregators and ECNs--a bridge is required, thus slowing down your order execution.


5- Now, the big question: Does any of this really matter?

Most retail traders want to know that they will have access to a level playing field. So, if you trade small sizes, all you want is:

- no slippage: possible on the most liquid pairs during the European and New York sessions considering that your order size is puny when compared to what is available to the market. If you experience negative slippage, it's because either your broker is trading against you (the good old fashioned market maker business model), or because they don't have enough capital to get a decent credit line from their Prime-of-Prime or Prime Broker, and don't have access to enough liquidity providers. Remember, everyone needs to get paid in this food chain, and LPs want as much volume as they can get (the more volume flows to them, the more money they make).

- no price feed manipulation, or sudden widening of the spread that would hit your stop loss, or a total freeze of your trading platform making it impossible to close or adjust orders especially in fast markets. If none of these ever happen, it does not matter if your broker is on the other side of the trade as they will comply to their mission to execute your order as you specified. As soon as they stop being committed to this, that's when you'll start experiencing all these weird things that professional traders never experience on their platforms.

A fast market is no reason for any of the above to happen, ever! The technology is good enough today to handle fast markets. So if this is an excuse you get from support, either the broker purchased the cheapest turnkey Metaquotes server license available and/or did not invest enough in a robust IT backend capable of handling huge amounts of order updates, order entries and matching, and price feed updates per second, or simply is trading against you and cheating you when their position is losing.

In conclusion, the quality of your order execution is what matters. Even if your broker is a market maker, you can and should get excellent execution as long as they are willing to play honestly, meaning when they lose against you, they have a process in place that has already hedged their losing position in the real market so they won't lose anything.

If you experience nothing strange with the execution of your orders under all market conditions, no weird issues with your trading software, then you are good to go. That is, until you become so successful that now you want to trade lager sizes, as in more than 10M per click, even 50M (500 lots) blocks at a time. A lot of brokers advertising themselves as STP or ECN have a maximum limit of 10M (100 lots) per trade. That is not how a professional broker operates. But when you reach that level, then it's an easy choice. You graduated from the retail world and now can move on to more serious outfits such as Baxter-FX, Sucden, LMAX, Divisa Capital, RJOBrien, FCStone, and Prime Brokers (PB) that do not require more than 250-500K/USD minimum to open an account.

Again, if the quality of your order execution (your ability to close, enter, modify your orders) is instant, no delays, then you are ok. Of course, it goes without saying, withdrawing your profits should also be speedy. If any of these are not the case, immediately close your account and find another broker. It's your money after all, and if everyone did just this, the bad brokers would learn an unforgettable lesson as they lose customer accounts.

Some brokers (very few! unfortunately) will even print for you all the details of your order's life cycle, including which LP was on the other side of the trade. There are few that do this, but some do. But if your broker just prints 'LP' to indicate a LP, that's not a transparent report, so don't trust that and move on. The order details should indicate at the very least which ECN or venue the order was fulfilled on, if names such as GS, Citi, BNP, DB, etc are not listed, think again why your broker is not showing this to you, the client that makes money for them every time you trade.

And remember that if you are running multiple apps in addition to your trading software, and your PC gets overloaded (what if you have an anti-virus that starts a full scan when you are trading? or backup software that starts scanning your drive?) all this will suddenly slow down your PC and your trading software could appear to have become less responsive, regardless of how fast your internet connection is. So make sure you run your trading software on the best hardware you can afford, and only run that, and nothing else--no anti-virus, no backup software, instead, create a clean system image you can re-install from if something goes wrong, and run all your browser windows and other stuff on a 2nd PC. I suspect that should clear up a lot of those 'slow' issues.

Just as you are dedicated to trading, so must your PC be: dedicated. If you are not dedicated, then why bother trading? You'll lose everything eventually.

For those of you reading this and already trading 100s of lots routinely, you already know all this stuff. So please be generous with your time and give back to the community: feel free to correct any errors or add pertinent info as everyone here would benefit.

Commentary on how the game changes as order size increases would also be very welcome.
 

AsstModerator

FPA Forums and Reviews Admin
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5,594
There are time limits on editing. This had to be imposed because...

Companies blackmailed clients into hiding facts.
Hackers broke into some forum accounts to hide facts about a binary broker.
Some spammers would go back later to add spam to an innocent looking post.
 

SNG12

Recruit
Messages
8
The post is nice, man! I know that some clients try to find the brocker who offers minimum spreads/swaps etc. I myself tried to find such fx broker, but it happened that once company provides you the real low spreads, it also will make some other tricks like slippages, more spreads deviations (even if a normal market conditions) etc. So I prefer brokers with licence and that who doesn`t have too many commercials everywhere.
 
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