ECN and ECN/STP FOREX Brokers

Traditionally the Forex market was off-limits to smaller traders, due to the institutional nature of the participants. Major banks and hedge funds made up the vast majority of the market, and their activities were only partly speculative.  The big money domination of this business has changed over the last decade or two.

Today there are numerous Forex brokers all over the world. On the face of it, this is a great thing. But due to the nature of the market, prospective Forex traders need to be aware of how brokerages function.

Unfortunately, this market structure opens small traders up to some questionable business practices on the part of the Forex brokerages. That is why it is vital to understand how you are trading, and with whom.

Top ECN and ECN/STP Forex Brokers

Background – How To Choose A Forex Broker

Forex brokers can be divided into two main categories.  The first is ‘market making’, or ‘dealing desk’ (DD) brokerages. The second type allows traders to access counterparties directly. These are called Non-Dealing Desk, or NDD brokerages. Because NDD brokers are a direct way to trade in the Forex market, it is worth understanding how they operate.  They are nearly always a better choice for traders as well.

Which brokers are better?

Before we dive into the nuances of NDD Brokers, let’s look at why they are probably better than DD brokers for just about anyone.

A DD Forex broker isn’t necessarily going to be dishonest, but the potential for abuse is enormous. This is a direct result of their business model, which can enable them to trade against their clients’ positions, and profit from their losses. Clients are also limited in how they can trade, and ‘trading assistants’ are almost universally banned by DD brokers.

In the old days, this sort of business model was known as a ‘bucket shop’. They were notorious for giving traders poor prices, and not letting a profitable position pay at the rate that it should. It really is more of a casino than a broker, though some DD Forex brokerages may not be involved in this sort of shady dealing.

Regardless of if they are using their system to take a client’s money, a DD brokerage isn’t as desirable to a serious Forex trader. Because even if they are honest, you will basically be limited to trading with one counterparty.

Trading in a Real Market

Unlike a DD Forex brokerage, an NDD broker uses a market-based system to allow traders to access the same counterparties that major financial institutions use for Forex trading.

This means that when you want to trade, you will be given access to some of the deepest pockets in the world. Instead of dealing with whatever prices your market maker decides to give you, you will be given the ability to trade directly with buy and sell orders from money center banks and hedge funds.

Many NDD brokers also let their clients see the market’s order flow, which gives them the ability to use advanced trading strategies.

Are NDDs Brokers Best?

There are, of course, also some drawbacks to NDD brokers.  An NDD broker has no control over how the market moves, and many do nothing to change the bid/ask prices from the actual market. This means your options are limited by the actual market, which may or may not be offering liquidity at the levels you need.

There are a few varieties of NDD brokerages, which use different systems to interact with liquidity providers. The oldest model for an NDD brokerage uses Straight Through Processing (STP) to match their client’s orders with market liquidity.

An STP brokerage usually makes their money by charging a commission for their services.

A more recent innovation in the world of Forex trading is the Electronic Communication Network (ECN), which can match up a client’s order with other small client’s orders, as well as tapping larger liquidity providers.

Many of the larger Forex brokerages, like eToro, use both STP and ECN systems, so that traders have the greatest range of counterparties possible.

Why the Differences Matter

The differences between an STP and ECN broker to a retail trader aren’t meaningful.

In most cases choosing a hybrid broker is the best way to go, as they will give you the most options. There are a few things about using an NDD broker to keep in mind, as they differ from how a DD broker operates.

Most importantly, because your NDD broker isn’t controlling the ‘market’ in the same way that a DD broker does, the market can move quickly, and liquidity may not always be available at the levels you need.

This means that the market can move past your stop loss orders, and your losses can far exceed what you expect.

NDD brokers also tend to be a bit more expensive than a DD, and for people that have small amounts of money to trade with, an NDD broker might be out of reach.

This is something of a warning to smaller traders. If you only have a little bit of money, and you want to trade highly leveraged Forex positions, you may not be making sound financial decisions. Your risk of loss is very high, and there are other options out there.

Making The Right Move

Unlike trading large-cap stocks on a margin, the amount of money that a trader can gain on highly leveraged Forex positions is enormous.

When you are trading with a DD broker, it is unlikely that you will be able to walk away with a big gain or be able to employ algorithms that have been successful in creating positive returns in the Forex market.

Using an NDD brokerage is not a sure way to make money, but you will be dealing with real counterparties. When you trade against your broker, who both makes the odds, and controls your trades, the likelihood of success is very low.

Trading Forex and CFDs is not suitable for all investors and comes with a high risk of losing money rapidly due to leverage. 75-90% of retail investors lose money trading these products. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.
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