Choosing a forex broker according to execution technology and reliability

Choosing a broker

How does one measure reliability when comparing brokers? The answer is fast executions when initiating a trade and closing it, as well as zero (or near-zero) slippage.

What features are characteristic of honesty in a brokerage firm?

  • Low spreads and commissions.
  • Real swap rates.
  • No requotes (or very rarely).
  • No slippgage when when you close a trade.
  • Normal spread peaks when major economic news is released (example: NFP report).
  • The broker doesn't use "Virtual Dealer" plugins to artificially manipulate pricing.

Supply and demand

New traders often forget that the price they see at a given time isn't necessarily the price they will get when they click to buy a currency pair. The brokerage firm has to find a seller to offset your purchase. A Market Maker brokerage will be the counterparty to your transaction (until you become consistently profitable, at which point it will directly pass along your order to its liquidity providers). ECN/STP brokerage firms, on the other hand, will attempt to find the best price available from their liquidity providers. As of 2020, execution speeds have come a long way, but they still won't match those you've experienced on your brokerage firm's demo account.

Delays caused by supply and demand, and the slippage that follows, are especially prevalent when demand peaks - like when a major economic report is released and tons of "buy" orders are competing for the same price, so some orders take longer to fulfil while others are too late and get flat-out rejected. The same can occur when demand is low (such as when many banks are closed and when European traders are sleeping, as orders will take longer to find a counterparty.

If you don't want to subject yourself to such situations, you shouldn't trade during these low or high-volume periods or when big news reports are about to be published (see our economic calendar for the next big releases).

Note: beyond the slippage issue, you might still encounter market gaps (frequent with Germany's DAX index when the market opens!) or see your order rejected via your brokerage firm's "Virtual Dealer" pluggin during high-volatility periods.

Geographical distance issues between your brokerage firm and internet service provider

The distance between your internet service provider (ISP) and your forex brokerage firm can lead to a slight delay in trades being fulfiled.

When you confirm a sell command on your computer or device's trading platform, the instruction has to reach your brokerage firm. If your brokerage firm is far or is located in another country, this can easily take up to 1 full second.

Just the same, pricing information needs to reach you, and any adjustments (take profit levels, stop loss orders, etc.) must go back to the broker with confirmations again going back to you. And while all this data is going back and forth, market prices continue to evolve, which can therefore result in slippage.

This delay can be measured via a simple "ping" test. The ping to your brokerage firm should be no more than 65 milliseconds. However, keep your expectations reasonable - If you're in Paris and your brokerage firm is in Australia, the distance is around 14,500 km, so the execution delay can't possibly be lower than 29 milliseconds as that would beat the speed of light, which is impossible!

If you use an Expert Advisor (software that automatically places trades according to a pre-programmed trading strategy), any latency can eat into your profits. The solution is to see if your brokerage firm has a server located near you or a virtual private server (VPS) located close to their central server.

Trade execution systems used by brokerage firms

Trade execution methods used by brokerage firms fall into one of the following categories: Market Makers, who provide the liquidity by acting as a counterpart to your trade (example: if you sell a pair, they are buying it); and ECN/STP firms, who foward your orders to their liquidity providers (banking institutions, mainly).

Market Maker brokerage firms

A market maker forex broker usually provides traders with instant trades, as they automatically take on the opposite end of your trade (selling what you buy and vice versa), rather than matching your order with another trader's opposite order via a liquidity provider.

When your market maker brokerage firm can match opposite orders of different traders, they will also do this. In any case, brokerage firms love acting as the counterpart to your trade as a majority of traders lose money (statistically speaking).

This is how they got their name, they "make" their market, even though the prices very closely reflect the prices found on the actual market. However, brokerage firms don't want to stray away from the pricing that's available on the inter-bank exchanges as they would be accused of manipulating pricing and leave for greener pastures.

These days, market makers that offer genuine inter-bank prices are able to fullfil orders instantly, or extremely fast. Orders that are over 4 lots may be subject to a small delay as the brokerage will need to choose whether to offset the order itself or pass it along to the interbank market. The difference in speed between an STP/ECN brokerage firm and a market maker can be close to zero for most small orders (under 4 lots).

Some market maker brokers may resort to using a plugin known as Virtual Broker, which automatically adds a few seconds of time to add slippage that favours the broker. The plugin can also create artificial spikes in pricing (again to the broker's favour).

ECN/STP brokerage firms

STP/ECN brokerage firms provide traders with the best pricing availble from the interbank market, rather than offseting traders' orders by taking the opposite trade. This can be both good and bad.

The good: these brokerage firms simply match traders' orders with those of the interbank market (liquidity providers). As such, these brokers don't "win" when you "lose". They make their money from the spread (or charge a small commission in the event there is no spread or a tiny one).

The bad: as they don't take the opposite trade that you do, there can be a minor lag between the time you submit an order and the time it is fulfilled by the interbank market.

Sometimes prices move fast, and your order can have a hard time being fulfilled as prices may have already shifted by the time the interbank market receives your order. This doesn't happen with a market maker brokerage firm as they have in a sense made their own market (even though the prices closely match those of liquidity providers).

2 reasons explain differences you may observe between STP/ECN brokerage firms:

  1. The current volumes on the interbank market
  2. The order routing technologies used and the internet link with the interbank market.

The more banks (liquidity providers) that are involved, the more likely that orders will have access to the lowest selling price of one bank and the highest buy price of another bank.

However, the technogy can vary from one liquidity provider to another. Yet some brokers are even able to offer spreads as low as 0 pips on the major pairs, and they can even benefit from negative spreads!

Here's how this works: if for the GBP/USD pair, a brokerage firm can get a buy price of 1.23255 from the interbank market while obtaining a sell price of 1.2325, this results in a -0,5 pip spread, so it can offer a slightly higher spread, close to zero, which can still be great for the trader while generating a small profit for the broker.

Thanks to this access to near-0 spreads, STP/ECN brokerage firms can attract traders that might otherwise sign up with market maker brokers. And the odds are that they won't attempt to manipulate pricing to make money off of their traders.

Beware of the plugin: Virtual Dealers

Some dishonest forex brokerage firms use tactics that steal profits from their clients. This is done using a programme known as Virtual Dealer. What does this application do?

It features a lag in trade execution time (2 to 4 seconds).

  • During this 2-4 second delay, if pricing moves in favour of the trader (positive slippage), the brokerage firm can decide that a small percentage (0-9%) of the total volume of the trader's orders will be re-quoted at best (with maximum profitable slippage of 0-2 pips). In addition, over 91% of positive slippage situations are listed at the previous price or are simply rejected.
  • During this 2-4 second delay, if pricing moves against the trader (negative slippage), the trader will get a new quote with the new price, and the broker selects the upper limits of the maximum negative slippage from 1 to 9 pips.

It features a "Gap" mode designed for the handling of trades when major economic report announcements are made (for example, the NFP - Non-Farm Payroll report), whereas traders' pending orders are fulfilled with the greatest possible delay.

Dishonest brokers who use this plugin will often add an automatic 2-second delay to trading execution, assuming that most traders will either not notice or not complain.

Solution: as it's hard to know exactly what a brokerage firm is doing behind the scenes, you many want to see what other traders are saying about a particular brokerage firm on the internet. If you see lots of negative reports from traders (and former traders!), that's probably a hint that you should consider a different company.

If you're often subjected to strange price spikes, huge price spreads during economic news events, excessive slippage, ongoing delays, etc., you might want to consider closing your trading account and finding a different broker. As of 2020, there are many honest brokerage firms that provide traders with the trade execution they expect, one that is close to that of demo accounts.

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