i. Broker is someone that gives us access to the forex market to trade currency pairs.
ii. Brokers mainly earn by charging commissions from clients for their trades.
iii. There are a lot of scam brokers, so you need to research for good brokers.
What is a forex broker?
In a general sense, a broker is a person or an entity that facilitates a trade or a transaction. Brokers are the middlemen between the buyers and sellers.
In forex, brokers are the middlemen between the traders and the forex market. If traders want to trade the forex market, they must place the trades through a broker.
Forex brokers are financial institutions that provide a service to traders by connecting them with the forex market.
Forex trading takes place over ECNs and traders require access to this network to trade, forex brokers provide this access to traders which allows them to buy or sell currency pairs listed on the forex market.
Role of a broker
Forex brokers are the middlemen between the traders and the markets. The main role of forex brokers in the forex market is to match buyers with sellers. They find the right buyer or seller for their client over the forex market.
For instance, if one is to buy a property, he will approach a broker and inform him about his requirements, the broker would then search for a suitable seller whose requirements would match the buyer’s requirements. Forex brokers have the same duty in the forex market too.
Since forex brokers help in the facilitating of transactions or trades, they are also known as liquidity providers.
In the forex market, liquidity is generated when a transaction or exchange of foreign currency takes place between a buyer and a seller.
Retail participants looking to trade in the forex markets require brokers since they do not have access to the forex market networks that are present between banks and exchanges.
Main liquidity or volume in the forex market is generated by the transactions that are undertaken by big institutions that exchange foreign currency for various reasons, business, speculation, investing, or hedging.
Hence, forex brokers will fill the orders of their retail clients by looking for suitable orders on the forex network by these institutions or by other retail participants.
For instance, a trader in the US places a buy order for the currency pair of USDEUR at the quoted price of 0.8500.
The broker with whom this trader will have an account will match this order with a sell order at the same quote price that is placed either by an institutional participant or by any retail participant.
Once the buy order is matched with another sell order, trade has taken place, volume or liquidity has been generated.
How do forex brokers earn?
Forex brokers provide a service to their clients by making sure that their trades are filled at the price it is placed at. In order to get trades filled, brokers need access to the forex network.
Getting access to such networks requires licenses and authorization from banks and exchanges and this requires them to dedicate an amount of money for it.
Brokers earn by charging commissions from their clients for their service of facilitating the trades and getting them filled.
The commissions are usually pre-determined and communicated to the clients. The commissions can be fixed or can be variable.
There are some brokers that do not charge commission at all from their clients. These brokers are usually paid by market makers for providing liquidity.
Brokers can also earn by providing trading software and terminals to their clients. This trading software provides a better and convenient trading interface to the clients, which allows them a better experience in performing their analysis for taking trade decisions.
Brokers can also establish an income stream by having a trading desk of their own and also by providing signals to their clients.
These brokerage firms will hire analysts that study the forex market and give out calls to buy or sell currencies to their clients, or can place the trades on their behalf and look to profit on the same.
How to choose a broker?
Traders are ecstatic when they see the wild price swings that take place in the forex market. They hop on to find a broker and in the excitement, they do not research before signing up with their broker, and it leads to them opening an account with a bad broker.
These brokers will not provide good service to them, the traders lose money and they go on the internet and post bad reviews about the broker.
This is the reason for the majority of reviews about brokers being negative. This in turn generalizes all the brokers out there even if some are good and provide good service to their clients.
There is a lot of dirty game played out there by certain broker firms.
Since there is so much competition in this field, they resort to cheap tactics in order to gain the attention of traders and increase their clientele.
These brokers often pay to get fake negative reviews posted about their competitors, they also pay to get fake positive reviews posted about their firm and the services they provide.
Since many traders do not research properly before deciding on a broker, they just read the reviews and take the step. This encourages such malpractices.
Brokers even try to attract clients by providing them attractive deals on opening an account with them. These include cash backs, bonuses on deposits, and so on.
Traders are swayed by this and they end up getting greedy for these small gains rather than focusing on going for a good broker that will be beneficial for them in the long run.
So how can traders select the right broker for their trading activities?
The foremost thing to do is to avoid getting attracted to the brokers by the freebies they offer.
Traders will just waste their time and energy if they indulge with brokers giving away freebies. Traders should also avoid taking their decisions based on reviews posted on random forums or websites, they must differentiate between genuine reviews and fake paid reviews.
Genuine reviews on brokers will be found only on genuine forex websites such as babypip.com or forexpeacearmy.com, etc.
The catch is to identify whether these websites are built to help out traders or are built to help out brokers by allowing them to sell their services to novice traders that arrive on their websites.
These are just some measures that traders must take in order to steer clear of bad brokers, but this is not all, traders must also perform deep research before finalizing on a broker.
1. Regulated broker
Since the forex market attracts a lot of participation from retail participants, lots of broker firms have popped up all over the world.
These brokers were often scammers that duped clients and left them in a bad place. In order to curb these regulatory authorities have been set up in countries in order to regulate brokers that are situated in the country.
These authorities provide recognition to the broker by issuing a license to the genuine ones that are actually established forex brokers and not any scamming firm.
These regulators ensure that these brokers do not indulge in malpractices and that the interests of the clients are protected.
When traders open accounts with brokers, they trust their brokers with the trading capital that will be deposited with these brokers. To ensure the safety of funds, traders must go ahead with regulated brokers only.
There are two classes of brokers. First, that are situated in countries like the USA, the UK, Australia, and Canada and are regulated by authorities of those countries in which they are situated at.
Then come brokers that are located in countries like Cyprus, the Philippines, and such, these brokers will also be regulated by authorities in their respective countries.
The most prudent choice between these two options would be the first one i.e. brokers located in the developed countries.
The reason for this is that since these countries are developed and have a large population, they will have good regulatory policies and authorities in place as compared to not-so-developed countries.
This will ensure traders that their money is parked with brokers that are heavily regulated by authorities of good and reliable countries.
There have been many cases of traders opening accounts with brokers situated in many exotic countries only to find out that the brokers have fled with their money and are not answering their calls, messages, and emails.
The best way to identify genuine brokers is to first look for the regulatory authorities in the developed countries. These authorities are transparent bodies and have all their information on public platforms for the general public to see.
Once these authorities are shortlisted, traders should then look for the various brokers that are regulated and granted a license by these authorities. Taking these measures will narrow the long list of that are present out there to a shorter list of regulated brokers.
This is not the only step to finding a good broker and that there is more research to be done, but what this does is allows traders to do away with scam firms and have good brokers on their list.
2. Customer care
Traders will have issues at some time or the other when they are using a broker's service to trade. There are no better people than the brokers themselves that can solve these issues that traders may face.
Also if clients have trusted brokers with their capital, they will need the brokers to respond to their queries.
Hence traders must take into consideration the customer care service and facilities of brokers. Since the forex market is open 24 hours a day and clients could be situated in any country around the world, brokers must have a customer care team that will address the issues faced by clients.
It is often noticed that before and during the process of account opening, the broker has representatives be in touch regularly with clients, but once the account opening process is completed, there is poor communication from the broker’s side.
Being transparent doesn’t only mean that brokers are genuine, it also means that they have a good line of communication with their clients. Hence, traders are required to research this too before they take the plunge and open an account with a broker.
3. Deposits and withdrawals
When traders open an account with a broker to trade the forex market, they have to transfer their trading capital onto the account. This capital sits in the broker’s account which the traders use to take trades.
If the broker is a regulated one then by the law, they are not allowed to shift the client’s capital from the client’s trading account.
Licenses of brokers can be revoked and they will face sanctions if this rule is violated. Hence traders are ensured that their capital is safe.
Good brokers often have a smooth deposit and withdrawal process. Clients can add money to their trading account by some clicks on the broker’s platform and can also take money out of the account the same way.
Normally the process for deposits is very smooth for obvious reasons, but it is possible for the withdrawal process to be a bit sloppy.
There is no reason for brokers to hold up the client’s money as the capital belongs to the client and is just parked in an account they have opened with the broker.
Hence, if traders repeatedly face issues while withdrawing money out of their accounts, they must contact the broker seeking an explanation for the same.
If traders feel that brokers are being shady when it comes to this issue, they should be on guard and be careful.
4. Transaction costs
This is one thing that traders look at first when they are looking for forex brokers. Traders will prefer brokers with low costs are costs are basically losses incurred by traders out of their capital or profits. Hence, traders will hastily open accounts with the broker at the cheapest costs.
There is nothing wrong with opting for low transaction costs, but this shouldn’t be the primary priority of traders. Traders must look at the whole picture here.
Brokers that have low transaction costs may have some hidden fees that they will charge from their clients in time.
Brokers that offer low transaction costs may also provide not-so-good trading platforms which will result in traders having a bad trading experience.
On the other hand, brokers charging high transaction costs do not guarantee quality either. High costs do not mean that the quality of services provided will be high too.
Hence, traders have to evaluate the package offered by the brokers and have to weigh the costs and other benefits and ease of trading provided by them.
This due diligence performed by traders prior can lead to them saving lots of money in the long term as well as lots of time and energy saved which would be wasted on following up on brokers for their lack of service.
Traders place their buy or sell order on the broker’s terminal along with the price at which they want to buy or sell the currency. Traders often lose out on profits due to slippage.
Slippage is the difference between the quoted price and the filled price. For instance, a trader places a buy order on USDEUR at a quoted price of 0.8050 and his order was filled at 0.8100. The difference between these prices is called slippage.
Brokers that have good access to the forex networks will provide better order fills to their clients. Brokers with not-so-good access will not be able to provide good price fills to their clients.
Brokers that have good access to these forex networks will be able to execute orders of clients quickly, allowing them fills at price as best as possible.
This speed of execution is a part of the service provided by brokers to clients and that traders must also take this into consideration when deciding which broker to go ahead with.
6. Trading platform
Brokers provide their clients a terminal or a platform that they use to perform their analysis and place trades. These platforms can be the broker’s propriety platform or can be a third-party platform.
The trading platform provided by brokers should not be a primary priority when selecting brokers, but there is no harm in ensuring that brokers provide a complete package of services to their clients which also includes a good trading platform for them to use.
Which broker do you have an account with?
This forex industry is full of people trying to scam new traders and such beginners have to be very vigilant.
I am sure that you have a trading account with some forex broker and have opened one only after carefully performing your due diligence.
Which broker do you use? How did you narrow down on that particular broker? Do let me know.
Share this blog post and let others get aware of the malpractices that are prevalent in this industry.
Feel free to ask questions in the comments section and I will be more than willing to get back to it.