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Forex Brokers and Their Roles In The Market
Before participating in any forex trades – albeit real or paper transactions – you always need a forex broker who plays as an intermediary to sell and buy foreign currencies. However, what does a forex broker exactly do? Which benefits do such currency trading brokers offer you? And how do you know the broker is creditable and lawful to work with? Let’s find detailed answers to those questions in this article.
What is a Forex Broker?
The main participants in the forex market are large international banks, followed by other financial institutes (e.g. investment or insurance companies). Therefore, if small investors would like to get involved in the market, they have to open an account with a forex broker and then start trading on customized trading platforms.
As already mentioned, a forex broker – also called a currency trading broker – acts as a mediator between the banking network and forex traders who expect to buy or sell currencies in the hope of gaining profits from price fluctuations. Previously, all transactions could be only conducted by phones or telex until the computer monitors were introduced. Concurrently, the rapid advancement of the Internet has turned forex trading to online transactions that can be opened 24/5.
Accordingly, an individual forex broker firm will allow traders to access a platform – most popularly MetaTrader 4 and 5 – for buying and selling currencies across the world. There are many types of brokerage companies that investors can choose from NDD brokers and market makers. Particularly:
- NDD (No Dealing Desk) brokers – typically including ECN (Electronic Communication Network) and STP (Straight Through Processing) – directly send orders from clients to a host of liquidity providers – commonly known as the interbank system or market makers – which play as a counterparty to all transactions of traders. This means a bank or large financial institution will directly sell a currency that an investor prefers buying and vice versa.
- However, most companies are not purely a broker. They function as a dealer or market maker (Dealing Desk or DD Broker) and take the other position of trade. Particularly, they buy low from a trader and then sell high to another as fast as possible.
Introducing Brokers (IBs)
As the name states, IBs are individuals who attempt to persuade clients to open an account with a certain brokerage company. On websites of forex brokerage firms, they offer an affiliate program which encourages individuals to work as a freelance introducing broker for companies. Accordingly, those IBs will receive a portion of commissions or spreads based on a number of clients or sales targets.
Forex Broker Definition
In this article, a forex broker mentioned is a brokerage firm that provides a trading platform for you to access forex trading. Most investors often have the same questions when newly entering the forex market. Particularly, what can they benefit from forex brokers? Are those brokers legal? And where do their incomes come from?
The Role of a Forex Broker
Prior to the advent of forex brokers, only those who had a large amount of capital and a great relationship with banks could engage in the market to buy foreign currencies. However, currency traders now can easily trade in currencies with the support of brokerage companies as follows:
Opening a Forex Account
If you wish to play a part in forex trading, opening an account is a must. Forex brokers all allow their clients to open a trading account free of charge and require traders to provide a full name, nationality, a phone number, an email address, a password, and currency in which they prefer trading – mostly USD, EUR, and GBP. As trading forex on margin may pose a high risk of losing money, all investors have to read the accompanying terms and conditions of brokers thoroughly before joining in the market.
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You only need to register for one trading account. After logging in, you can easily add as many accounts as you want.
Normally, forex brokers support traders to enter paper and real trades. In case you are a novice investor, you should practice at least 200 trades or within 3 months on a demo account to test trading strategies and calculate win rates of your trade setups. Participating in paper trading makes you faced with no monetary risks, but allows using the virtual money and leverage ratio to start trading in a simulated Forex market.
If you are ready for real transactions, you can open a real account and deposit the first funds by credit/ debit cards, e-wallets or bank wire transfer. Most forex brokers require a minimum deposit of $250. However, clients are advised to start with a large enough capital for being more flexible and preventing their trading capital from burning out.
Further, brokerage firms also give customers attractive bonuses when they first deposit on accounts. For example, as regulated by FiNMAXFX, traders will receive a 50% bonus with the maximum amount of 500 dollars or euros for their first-time deposit. Accordingly, if you invest $1,000, you will get a bonus of $500. So a trading capital is now $1,500.
In addition, verifying an account right after registration may not be urgent because its validation status does not affect your trading. Not until you wish to withdraw profits that activating your accounts is required.
Forex trading is conducted online on electronic trading platforms. Of which, MetaTrader 4 and MetaTrader 5 are the most popular. Today, forex brokers facilitate trading activities of clients by providing different versions available for websites, computers (in both Mac and Windows operating systems) and mobile devices (in both iOS and Android).
Trading platforms will allow you to choose your preferred orders, set proper stop-loss and take-profit levels, use such basic and advanced trading tools as multiple charts, in-built technical analysis or trading indicators (e.g. pivot points or candle countdown).
Forex is the largest financial market because it allows investors to trade with margin accounts. Compared to other financial markets that require large capital, traders may start small and borrow interest rate-free funds from brokers to trade forex. Depending on different currency pairs, a forex broker allows you to leverage your finance up to 200 or even 1000 times as the maximum. Concurrently, as leverage is inversely proportional to margin, forex brokers require clients to keep a corresponding margin account aside from their account balance.
When opening any accounts, albeit demo or real, traders will choose a fixed leverage ratio. However, some forex brokers can support their clients to change the rate on a real account. Otherwise, traders have to open another account with a different leverage ratio.
Most forex brokers also offer beginners opportunities to learn forex trading from scratch. On browsers of forex brokers, you can freely access educational materials available such as e-books, video lessons and a glossary of financial terms. Besides, brokerage companies also hold webinars that allow traders to improve their trading skills, join in live discussions and get instant answers from experienced speakers.
Many forex beginners often trade forex with fortune or intuition. However, creditable brokers and professional investors advise using existing trading tools on websites to make a decision-making process more efficient. Accordingly, you can follow an economic calendar to keep up with upcoming economic or political events that may significantly affect price movements of currency in which you plan to trade. Also, you can use forex calculators to get key data on a potential transaction such as spreads, margins or expected profits.
The Regulation of a Forex Broker
Forex investors can be faced with bigger risks when working with forex brokers that are not under regulatory supervision. That is, their operational activities do not comply with any official standards, which renders those brokers incapable of resolving problems induced by unethical or even illegal behaviors.
So, choosing regulated or licensed forex brokers is vital so that they can act in your best interests and adopt some manners of financial protection when something bad happens. Forex brokers located in jurisdictions will be regulated or authorized by different regulatory agencies at both national or regional levels.
How Forex Brokers Make Money
Normally, the main source of a forex broker’s income comes from spreads. Also, brokerage companies can increase their revenues by charging commission fees or providing additional services.
Firstly, a bid-ask spread means the difference between buying and selling prices of currency pairs. Right after a trader opens a position, the spread amount is deducted from an account and displayed on the trading platform. Meanwhile, its size will be regulated by a broker’s policy.
For example, you open a position of EUR/USD that is priced at 1.16470 bid and 1.16500 ask. The spread between the two values is 0.0003, equivalent to 3 pips. The amount will be collected by a broker as soon as you enter a trade at the ask (offer) price and then close at the bid price.
As most forex brokers are dealers and have to vie with other market makers such as banks or large financial institutes, they often try to offer a competitive bid-ask spread to attract and attain more customers. Generally, the spread amount determined by those brokers is often fixed and maintained low in normal market conditions. However, the spread can vary if any major events arise and result in sudden market movements.
Additionally, ECN and NDD brokers often provide a raw spread account with a tight spread, even from 0 pip. So if you work with those brokers, you are often charged an additional commission per transaction. The commission fee can be fixed or calculated by a portion of a pre-specified lot size and the exchange rate to a trading account’s currency (if any).
Finally, forex brokers may charge their clients some fees when those investors take their profits out from a trading account. Withdrawal fees vary depending on payment methods (e.g. wire transfer, credit/ debit cards or e-wallets). Even in case, there are no transactions on your account, inactivity or maintenance fees are required.
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