Do you think that the Forex broker is only a middleman who charges a fee for transactions on the stock exchange and provides trading platform and tools? No, alas, everything is much more complicated. And about how the Forex broker actually works, we will tell below.
How the Forex broker works
Frequent cases of fraud by brokers scare away investors. Let’s start with the fact that the foreign exchange market in Russia does not have legislation, although the cash equivalent rotating on its capital exceeds the stock market. More precisely, the law on licensing is, insufficient for strict regulation of the Forex. Yes, and the law is not really enforced, which explains to some extent anarchy among the participants of the currency market.
Since the Forex market has no single regulatory exchange (or a single center), brokers (especially registered in offshore zones) have the ability to turn clients ‘ funds within the company itself, i.e. without accessing the interbank market. Here and there are two possible models for the work of the broker and the client: A-Book and B-Book.
1. A-Book
This is a white scheme in which the broker displays the client money in the interbank market via the liquidity provider (e.g., investment banks). Earnings of the broker in this arrangement — the spread (the difference between the purchase and sale of foreign currency). Moreover, the spread is floating, that is, depends on supply and demand. If in the tariffs of the broker this spread (Commission) is fixed — this is one of the signs of B-Book model.
Brokers working on such a model, interested in the fact that the client was bringing to market large amounts of money and made deals as often as possible. The Commission earned by the broker allows the company to carry out a variety of promotions and marketing move. That is why brokerage companies operating under the scheme A Book, set a high entry threshold, thereby showing that they are focused on long-term cooperation. Reliability is confirmed by the license of such regulators as NFA, FSA, Bafin.
2. В-Book
Here the principle of how the Forex broker works is the opposite. The contractor for the execution of client orders itself acts as a broker, that is the client’s money does not go to the market. In practice, all that the client earns is the loss of the broker and Vice versa, the loss of a client’s is earnings of broker companies.
Statistics show that 90% of traders who have registered on the website of the broker, within 6 months lose their deposit, and this uses a trader. Moreover, if “kitchens” like to cancel profitable orders or other scams, brokers, working on the scheme-Book, can work freely. On the one hand, it is difficult to find fraudulent intent, because the client in the event of a successful transaction still gets his profit. But statistics — a thing relentless, it is easier to pay 10% successful traders from the same number, 90% of “losers” than withdraw the money on the real market. That is, the earnings of the broker according to the scheme B-Book refers to legal and allows you to get more profit than under the scheme A-Book.
Signs of В-Book broker:
- a small entrance deposit (5-100 USD);
- huge leverage (up to 1:2000), where the movement of the quotes in a fraction of a percent can result in a margin stake;
- various exchange trainings and seminars, to ensure that the trader have made more trades (and lost the deposit).
Let’s calculate the estimated yield of both models on the basis of following parameters:
- total deposit: 100 customers with a deposit of $ 2,000 (200 000 USD);
- turnover for 1 day — 2 trades per day with a density of 0.1 lot each;
- turnover per month — 100 customers * 2 transactions * 20 working days * 0.1 lot = 400 lot.
A-Book: 400*11 = 4400 USD (the profit the broker, subject to a fee of 11 dollars for the lot. Even if it is 15 dollars. it does not matter).
B-Book: 200 000 * 15% = $ 30 000. The 15% is taken arbitrarily, but close to the truth. This is the amount that keeps the broker after losing 90% of traders and payout the remaining 10% who won.
The second scheme is fraught with loss of reputation, lost money because the investor is unlikely to replenish the deposit again. However, in the long term, you can again attract new clients seductive conditions and promotions, continuing cycle of customers.
Once again focus attention on the fact that the B-Book scheme refers to the legal if the broker goes too far! It is important to distinguish brokers working under the scheme of “kitchen”, aiming to “traverse” the client.
The advantages and disadvantages of A-Book. This scheme is as transparent as possible. The investor sees how the Forex broker works, understands the overall goals and objectives. However, for brokers of such level it is necessary to attract major investors in order to survive in a competitive market. Start-up capital, high costs of license and maintenance contracts with suppliers of liquidity (it is interesting that brokers B-Book do not inform about the liquidity providers of the client). All of this drive to increase the fee. But the trader gains the understanding that the transaction is a subject to the “pure” market, and the result of the transaction will not affected by outside influence.
The advantages and disadvantages of B-Book. The trader will hardly know how the broker works, though can guess. On the one hand, to the trader, such a model is highly reasonable, because on the real market requotes and slippages are possible. Here, all orders are executed by the broker. It is possible to trade before the news, because the liquidity the broker provides himself, and so price variance will be minimal. But possible risk: it is not clear whether the broker manipulates the prices (the sign “kitchen”) or provides relatively real picture.
The hybrid model. The best option for large brokers (small ones can not afford this). On the one hand, it is possible to set small tariff that attracts customers. On the other hand the major broker can afford to perform the role of a real inter-bank market without bringing the client’s money.
Summary: most beginners do not have large sums. Because they would be quite comfortable with B-Book, because it is not necessary for them to know how does a Forex broker work, but would be easy to withdraw money. After gaining experience makes sense to change the broker, or go directly to large companies, which are automatically transferred to the client from one circuit to another in case of increase in its deposit and success.
