In order to trade on the Forex market, you need an account with a broker that provides access to the interbank foreign exchange market – the place where currencies are traded. It is crucial to know how to choose a broker. In this article we will look at the main criteria for selecting a broker.
Regulations imposed on the broker are extremely important. If registered in any offshore area, it is quite likely that they are dishonest. The EU has introduced a common standard – MiFID. It ensures the legitimacy of all licensed brokers. There are requirements for best execution of client’s orders, classification of customers, KYC (Know Your Costumer). You should not be surprised if you are required to provide a lot of documents when opening a new account. As long as the broker is MiFID registered, your personal data would not be misused and/or provided to third parties. The basic principle of this system is that a licensed broker in a European country has the right to operate throughout the Union. The regulation is based at a local level which leaves doubts among some traders whether the rules are strictly followed. If you wish to be extra protected you should know that the most stringent procedures and rules are effectively applied by the regulators in the UK – FCA; Germany – BaFIN; France – AMF.
There are two main type of brokers – Dealing Desk (DD) and No Dealing Desk (NDD)
Dealing Desk (DD)
The first category also known as Market Makers does not provide access to the interbank market. This means that the broker takes your order in but does not guarantee that they will execute it. It is as if they are taking “bets” from their clients. If the client loses, the broker makes money. If the client makes money, it comes from the broker`s pocket. Some of them, but not all, hedge against their clients’ positions on the real market. This creates a conflict of interest.
You may find an honest DD broker, however you should be very careful with most of them. They are aware of the fact that many traders lose money and they try to take advantage of this. Often they are called Bucket Shops. DD brokers also use a few dirty tricks:
Slippage – this is a change in the execution price compared to the one you see when you actually place an order. This can happen with NDD brokers, but only in extreme circumstances.
Re-quoting – it is similar to slippage, but instead of receiving a bad quote the client does not enter a position. In the trading platforms you can find settings for maximum deviation – this is the level beyond which the order would not be executed. From an ethical point of view it is difficult to determine which of these tactics is worse, but they both bad.
Charts manipulation – if you compare charts of DD and NDD brokers you will find some distinctions. The main differences are the huge spikes which cannot be found on the actual market. These are sharp movements targeting stop-loss activation. This is called stop-hunting. Usually they appear during the night when few people are monitoring the charts. From 100 customers probably 30 will seek their rights and this means the broker will make money from the rest. Here are some spikes examples:
Fraud – some brokers will refuse to pay your money back. This could happen with non licensed brokers or those who are registered in offshore zones.
No Dealing Desk (NDD)
These brokers execute the orders directly on the interbank market. Their profits are based on commissions for each transaction. Therefore, they are not influenced if their clients loses. They benefit if their customers trade more. You have to be a good trader in order stay longer in the market. Sometimes the commissions are directly charged, in other occasions they are added to the spread.Brokers who put commissions and spreads together are called STP. Those who do it separately are know as STP + ECN. There is no major difference between both types. In the second instance it is clear how much money goes to the broker.
And last but not least, if you do not speak English, it is better to trade with a broker who offers support in your language.