People new to foreign exchange trading may be bewildered to find that their foreign exchange broker could operate in some surprising ways. Actually, numerous companies offering forex trading services are not brokers in the usual sense at all.
Conventionally a broker would serve you as a client, placing your buy and sell orders for you through their dealing desk and charging commission (for stock exchange transactions) or making their revenue from the spread (the difference between bid and ask prices) for forex trading. At one time orders would be placed by telephone. Now they are placed online, with you in full control of your account.
But regular forex trading accounts require considerable capital. Typically the lowest deposit is anything from $10,000 to $50,000. Now that forex trading can be done from home, there are many new services springing up with lower deposit limits, offering forex trading mini accounts. But their business model is not inevitably the same as traditional brokers, and this can have implications for you.
So these days, there are different types of companies that operate in different ways in order to provide services to the smaller investor. Most of these do not have dealing desks of their own.
Forex NDD (No Dealing Desk)
Brokers without a dealing desk communicate with external liquidity providers to ensure prices and match clients' trades. Because there is a selection of liquidity providers, the real spread tends to be small but the broker can expand the spread to give themselves a reasonable profit margin.
Forex ECN (Electronic Communications Network)
ECN brokers create a marketplace where many market users including banks, market makers and regular traders can see to have their trades filled. Orders will be entered in the name of your ECN provider for anonymity. Spread is in most cases small but the ECN will frequently charge a matching fee per trade.
Foreign Exchange Market Makers
When you have an account with a market maker, your trades are not being matched by external providers but by the market maker themselves. This means that they take the opposite position and offer their prices to you, although of course these prices relate to the current price in the market. They will then offset their risk by taking an equivalent position to yours in an ECN or other environment.
Since they are not actually placing your order in the market, market makers are not brokers in the true sense of the word though many traders use the term currency trading broker loosely and include them. Others believe that the difference between market makers and bucket shops is not clarified and prefer to avoid them.
Forex Bucket Shops
Bucket shops work a little like market makers but they do not offset their risk and may have very little connection to the real spot currency market. When you deal with a bucket shop you could be said to be betting against them. They take the other side of your trade and they profit by your loss. Like commercial bet takers, if you are successful they tend not to want your business and will most likely close your account, returning your money to you. They certainly won't provide you with additional features, like forex signals. Obviously, as with a forex signal service they would help you to win against themselves, so you can't expect such a suicidal behavior. So the best thing to do is to find a reliable forex signal provider.
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