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The Difference Between Forex Brokers And Dealers
Do you know the difference between a forex broker and a dealer? Did you actually know about dealers in the first place? No, well the majority of so called forex brokers are actually dealers who are trading against you.
Most traders have no idea who they are actually placing their trades with. They assume that all brokers are the same. In fact, the vast majority of traders are in fact trading with a dealer when they thought they were utilising a broker. In addition, most traders don’t know the difference between brokers and dealers anyhow.
What Are Forex Brokers?
Brokers are what currency traders think they are. They will organise trades on behalf of their clients, the traders. This is the main difference. Dealers trade with and against their clients. Brokers are middlemen who will try to match the buy and sell orders from their clients to other clients buy and sell orders. It is similar to an estate agent attempting to sell a property for a client to another client who wishes to buy a property.
There are several benefits that a broker offers their clients.
- Firstly, there are clearance and settlement issues. A broker will guarantee that there is trust and creditworthiness between the two trading parties. This means that trades will actually be settled and also there is no need for traders to check every other trader’s creditworthiness to make the exchange. This would be impossible without the broker.
- A second benefit is that the broker has access to and far more importantly have established connections and affiliations with liquidity providers and market makers. These relationships with banks, financial institutions and dealers mean that the broker will get preferential exchange rates that they then pass on to their clients, the traders. The banks etc. like the fact that the broker sends them large amounts of buy and sell orders that will be fulfilled.
- Another benefit that a broker presents is that they can offer very tight spreads. Because they have relationships with so many liquidity providers, they can take the best bid and offer prices from these liquidity providers and offer them to traders, meaning tighter spreads, and less costs to the trader.
- The last problem a broker solves is that they will find and match an order from one trader to the order of another trader very quickly because they have so many connections. It is vital to get the order fulfilled as quickly as possible because the trader could suffer financial loss.
The broker doesn’t make as much money through the spread as a dealer does but they have to make money somehow and they do this by charging commissions.
For instance, they will charge $6 per standard lot $100,000 to buy and sell trade so that’s $12. If the spread was .5 of a pip, that would be another $5. This means that the total cost of the trade is $17.
A dealer doesn’t charge any commission per trade but the spreads are much wider. If the spread was 3 pips then a standard lot of $100,000 would cost the trader $30. The difference between the costs of the trader and dealer being $13 per full transaction.
There aren’t many true forex brokers in the market for the retail trader, (although they seem to be becoming more common nowadays). Most are dealers. Finding a true broker means doing quite a lot of researching. You will have to check to see if the “broker” is an ECN, an (Electronic Communication Network), or an STP (Straight Through Processing). Both are NDD (Non Dealing Desk) brokers meaning that they do not trade with and against their clients but match clients with clients.
What Are Dealers?
The vast majority of amateur forex traders use the services of dealers and not brokers. Dealers are also known as liquidity providers and market makers, which you may have heard of.
Dealers are not brokers. They are traders that trade with their clients (other traders), by buying low and selling high to make their profit. Brokers and dealers alike need clients to utilise their service, however, dealers take the reverse side of their client’s trade. That is their business model. Brokers do not buy or sell with their clients, they match their clients with other traders.
What are the benefits of a dealer?
Dealers provide liquidity, which gives other traders the opportunity to place their trades when they want, in a prompt manner. Dealers buy low from traders and sell high to other traders and they make their money from the spread, the disparity between the low and high prices. They have to buy from one trader and sell to another trader as fast as they possibly can otherwise they could lose a lot of money. Having to buy and sell almost immediately is a hazardous strategy for them. However, it can be very lucrative for them if they are able to complete the buying and selling without much change in the price but they do rely on filling the other side of the trade immediately. They provide traders with liquidity and almost instantaneous filling of orders.
Dealers only think about themselves and are only bothered about how much money that they can make which inexorably is to the detriment of the trader, their client. A broker’s concern is to assist their clients get the best price they can. A dealer really couldn’t care less whether the trader wins or loses, they are only concerned that their own books are balanced.
Due to many people that are highly ignorant of the facts, the status and standing of dealers is wholly unfounded. There is a deep rooted cynicism and suspicion of dealers that borders on illegality with some folk. A dealer is an adversary that has the capacity to affect your profits one way or the other because of the spread that they generate. Yet, without them, it would not be feasible to trade so they deliver a vital facility.
Dealers, just like brokers, have good relationships with the large financial establishments like banks, and therefore have preferential rates because they supply many orders to the banks and they also prove to be honest and have good financial footings. These privileged rates that they obtain from the banks are passed on to their clients so traders have better rates.