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Forex 101Lesson 4
How to choose a Forex Broker
Forex Broker is the intermediary that facilitates your trading. Although traders prefer to
remove the middle-man, a broker forms an important part of trading. In this article we will
help you choose forex broker. While most traders tend to take the idea of choosing a forex
broker very lightly, its consequences can be very harsh at a later point in time. As the saying
goes, better be safe than sorry; it is worth paying attention to while choosing a forex broker. After all, it is only with a forex broker that traders (retail traders such as you and me) can
trade with. In this article you will learn about some important points to remember while
selecting a forex broker and towards the end you should have enough knowledge and confidence
to help you pick the right forex broker for you.
We cover the following topics in this article
Forex broker basics
How to compare brokers
How to start trading
Forex Broker Basics
A broker, as mentioned is a middle-man who accepts
your order and matches it against other buyers and
sellers. In retail forex trading, a forex broker is
essential as they match thousands of orders thus
adding to the overall transaction value. If you were
you avoid a forex broker, you would need to have
capital in amounts of millions to be able to trade
directly with the buyers and sellers.
Forex Broker Types
Forex brokers can be made up of two primary categories
Market makers
STP or NDD (DMA) brokers
Market Makers
These types of brokers are known as counter-party
brokers. In other words, they trade against their
customers (traders). So when you buy, the broker takes
an opposite sell position against you and vice versa. Sometimes, the market maker can also match your order
against another of their clients. The bottom-line being
that with a market maker type of broker, most of the
trades are done in-house or with the broker’s dealing
desk.
STP or NDD Brokers
The second kind of brokers acts as a true intermediary. They do not take any counter- party positions
but merely pass your orders (or trades) to either their liquidity providers or to other traders. They
do not interfere in your trades as they charge a commission or fee for the service they provide.
While there can be a lot of debate as to which of the two is better, remember that most market maker
type of brokers have low account opening requirements; whereas an NDD type of forex broker
usually requires a minimum deposit of $500 or in most cases above $1000.
Commissions and Spreads
Besides the above classification, brokers can also be classified further based on other criteria such
as commissions and spreads. They fall into the following three categories:
Fixed Spreads
Variable Spreads
Commissions only
Fixed Spread Brokers
do not charge any commission but instead markup a couple of pips on the actual price. For example, if
EURUSD is currently trading at 1.31423, your fixed
spreads broker will show you a quote of 1.31429; thus
adding a markup of 6pips. The problem with such type of
brokers is that in order for you to profit, your trade
must move 6 pips in profit to cover the broker’s
spreads. For scalpers, this can be a problem.
Variable Spread Brokers
are similar to a fixed spread broker (they do not charge any
commissions) but charge a spread that changes (variable) with
market conditions such as market liquidity and volatility. During
periods of high liquidity, variable spread broker’s spreads can
narrow down to even 0 pips (ex: EURUSD during the London and US
market overlap time). While variable spread brokers might seem
ideal, note that spreads can vary during off market hours. For
example, the
same EURUSD could see as much as 6 pips or even more during early Australian (Pacific) trading session.
Commissions
only broker on the other hand do not markup the spreads. However, the spreads can vary. If the
broker has a large liquidity network (i.e: banks
and other market participants who can offer better bid/ask prices) the spreads can narrow
down to 0.5 pips for example.
How to Compare Brokers
When selecting a forex broker, it is always
advisable to compare a couple of brokers to get a better view of things. In this section you will learn
about the important criteria to look into while selecting or comparing forex brokers.
Is the forex broker regulated and licensed by a recognized financial capital markets authority?
And more important, is the broker recognized by a
financial regulator in your jurisdiction. The reason this
is important, especially the second part is that a
financial regulator ensures that the broker complies with the law and can intervene to protect the
customers (traders) interests.
What type of accounts does the broker offer?
Most forex brokers offer different account types catering to the different trader profiles. Typically brokers offer a micro
account (deposits up to $100), a standard account (deposits up
to $3000 – $5000) and VIP accounts for higher depositing
customers.
While this might seem trivial to check on, some brokers also
offer different trading conditions for each of the account types. Leverage is an important aspect that changes based on
the account types. It is therefore best to check on the account
types to see the value you are getting for your business
What are the trading conditions offered by the broker?
Does the broker offer spreads only or commission only? What are the typical spreads for major currency pairs, what are the swaps, does the broker allow scalping or
news trading? What are the minimum contract sizes offered
by the broker, how many currency pairs, CFD’s does the
broker offer to trade?
These are just some of the questions to ask and check with the broker. Most often traders skip this part only to
realize it later on that their profits were withheld because of scalping or news trading.
What are the banking methods offered by the broker?
What kind of banking methods (deposits and
withdrawals) does the broker offer and do any of the
methods meet your criteria. Also be sure to check on the
minimum deposit requirements and any fees that are
charged for deposit and withdrawals.
What bonus structure does the broker offer?
If you are interested in claiming a bonus, be sure to read
before hand on the bonus terms and conditions. Most
forex bonuses require a minimum trading volume to be
met. Some brokers might even withhold your
withdrawals unless the volume is met. Therefore if you
will be claiming a bonus, be very sure to read all the
fine print.
What do others say about the broker?
Broker reviews play an important part while selecting a forex broker. Most traders are sure to voice their opinion
about a broker, especially if the broker tries to scam their
customers. Reviews can be found on forex websites as well
on forums and could provide a bigger perspective when taking the above factors into consideration.
However, do read the reviews with a pinch of salt. Most
traders do not read or research into the broker before hand and thus tend to complain. Try not to be one of them
and do your homework accordingly.
How good is the broker’s customer support?
Last but not the least, check up on the different ways
you can contact your broker. Phone support
(preferably toll- free), email and live chat as well as
the support operating times. In fact you can check on
this before hand by asking questions to support to test them on their knowledge, both about the financial
instruments offered as well on other matters such as
account verification, banking and so on.
How to start trading
Considering that you have done your due diligence on the forex brokers and you have decided to open a trading account with them, always test the
waters by making a small deposit (perhaps $100 – $500) and trade
normally. During the course of the month, you will obviously be interacting
with the broker and thus be able to gauge if the broker is indeed true to what they mention on their website. After a couple of months, you can slowly
fund your account with larger deposits as you grow to trust your broker.
A forex broker is unavoidable and there are many brokers out there who
bring the rest of the business a bad name. By spending time doing due diligence
about a broker and starting slow (with small deposits) you will be able to
not only discover more things about the broker but also build a mutual
business relationship.