Choosing the Right Forex Broker

Choosing the Right Forex Broker
By [http://ezinearticles.com/?expert=David_Thorpe]David Thorpe

Introduction
When you first start trading the forex market finding a broker is unlikely
to be a major concern; aren’t all brokers the same anyway? Lets face
it if you can find a trading strategy that you are comfortable with and become
consistently profitable then that is the battle won, right? Unfortunately
it isn’t that easy and the shame of it is that there are too many so-called
brokers out there who want to rip you off.

Where Does This Mentality Come From?
The retail forex industry has been brought up on the fact that FX is worth
$2 Trillion in volume every single day (in reality only a fraction of this
comes from private speculators, the vast majority is generated by large banks
and multinational corporations). This is quite a lure especially when we
are reminded at how this figure completely dwarfs the stock market, and we’ve
all heard how much you can make from stocks. Now add the statistic into the
mix that between 90 and 95% (probably closer to 99%) of all retail speculators
lose money and you have a bevy of firms climbing all over themselves to get
their hands on this cash. Forex is billed as the way to become mega rich,
leave your job and live the life you’ve always wanted but if it was
that easy everyone would be doing it!

How do Retail Brokers Position Themselves?
To answer this question we need to briefly explain some market dynamics. The
forex market is completely decentralised. This means that, unlike centralised
exchanges such as the NYSE and LSE, there is no central location where each
transaction can be traced and recorded nor do currencies have specialist
market makers responsible for providing quotes for the entire market. Instead,
the entities that act as market makers for the currency market are the World’s
largest banks. These banks carry out transactions between each other on a
regular basis, hence the term ‘interbank market’. In order for
you to deal directly with these large banks you need to establish credit
relationships with them which takes a vast amount of money and consequently
most people cannot afford to do this. So this is where the retail brokers
come in; they connect you with the large banks. Because they are representing
many clients they have enough equity to establish credit relationships and
deal with these banks, supposedly on your behalf.

This Position is Open to Exploitation
Retail Forex Brokers are the middleman between you and the interbank market
so every time you place an order to buy EURUSD for example, your broker alters
their currency holding positions with their large bank partners to reflect
this. Rightly so your broker charges a fee for this service which usually
comes in the form of spread (the difference between the bid and the ask).
The spread they offer you is slightly larger than the spread they are offered
in the interbank market so your broker can make a small profit on every trade
you make. Everything sounds all well and good so far, agreed?

Now let me ask you a question: suppose you work in Las Vegas as a runner placing
bets at sports books for several clients. Now you’ve been doing this
for a while and you recognise that some of your clients are good at picking
winners and some are good at picking losers. If you could make a little extra
on top of your fee for running by doing the opposite of the clients who consistently
lose bets would you do it? Now suppose that 99% of your clients lose money
over a long enough period of time so all you have to do is bet against them
all and you will make a fortune! Sometimes around the really big sporting events
you get so busy you can’t place your clients’ bets and your bets
quickly enough so you figure you’ll make sure you get in with good odds
and then sort out your clients once you are done, meaning they get slightly
or sometimes much worse odds than you. This mindset is greedy and unfortunate
and you won’t have many friends but at least you would make a good retail
forex broker!

Sorry to use a gambling analogy here (trading should never be confused with
gambling) but it does explain the problem quite nicely. All you have to do
to apply it to our situation is switch out a few words: Las Vegas is the interbank
market, runner becomes retail broker, sports book becomes large bank, bets
become client trades, running fee becomes spread, big sports events are big
news items and the difference between the odds you get and the odds your client
gets is the slippage you hand out.

Isn’t This Slightly Cynical?
Yes the analogy used is slightly cynical; it is not the case that every broker
out there is guilty of these ‘bucket shop’ tactics (rest assured
that every brokerage will deny it however) but it is far too common. Even
bank traders can experience slippage at volatile times but the degree to
which it occurs at the retail level is unacceptable. Furthermore you cannot
use volatility as a defence when you begin to hound profitable traders with
constant re-quotes, accusations of illegal scalping (no such thing even exists!)
and forced account closure. And what about a brokerage going bankrupt without
returning your funds? Is it any wonder that this article is questioning the
honesty of some retail brokerages?

What About Regulation?
The retail market is still fairly young and therefore loosely regulated. However,
there are two organisations that police the sector and they are beginning
to step in and protect the consumer on a more regular basis. These organisations
are the National Futures Association (NFA) and the Commodity Futures Trading
Commission (CFTC). Of the two the CFTC is most heavily involved in the regulation
of fraud, manipulation and abusive trade practices in the retail forex sector.
The CFTC.gov website is an excellent source of information on customer protection
and on-going legal disputes against brokers and other entities.

Lets Talk About the Positives
It’s not all bad out there; certain firms do offer very attractive and
honest services. Let us summarise some of the attributes you should consider
looking for in a broker:



NFA and CFTC registered

No dealing desk, ECN style brokers

Variable spreads that reflect the volatility at interbank level

Firms that charge commission rather than a flat spread (the thinking here is the more you trade the more they make so it is in their interest to see you make profitable trades and continue to trade happily with them – less likely to be on the other side of your trades)

Friendly and efficient customer service

The offer to insure your capital in a secure bond (will protect client funds in the event of a broker’s bankruptcy)

Limit entries (your broker allows you to enter the market with a specified ‘chase factor’ of a few pips. If your order is not filled within the acceptable ‘chase factor’ your order is either partially filled or not filled at all – prevents ridiculous slippage at times of high volatility)

A good reputation within the industry (check independent sites for user reviews)

No BS marketing that focuses on the multi millions you will make within months of opening your account (these firms prey on inexperienced traders and gamblers who have no chance of being profitable)

Realistic and modest margin/ leverage (firms that offer leverage over 100:1 are encouraging you to trade big and lose you account to them quickly – you may wish to look out for a broker who offers you a choice of margin requirements)

Of course not all of these attributes can be classed as ‘golden rules’.
If something is perceived as attractive then it is open to exploitation. For
example, ECN brokers are becoming very popular and this has lead to several
firms advertising an ECN service when they don’t really have the technology
to provide one.

Do Your Due Diligence
I know it can seem tedious but researching
your chosen broker is definitely time well spent. At the very least you should
spend time browsing a broker’s website. You may like to make a list of things you like the sound of and things you don’t (remember, if something sounds too good to be true then it probably is). Contact their customer support and put these issues to their representatives and see if you are offered a satisfactory response (also a great test of their customer service dept. and general professionalism). I would also seriously suggest checking the CFTC website and browsing forums, discussion boards, blogs and user
review websites for any information. My last suggestion here is that you share your good and bad experiences within trading communities. Although you will probably never hear about it your efforts will save your fellow trader his/ her time, money and probably a few grey hairs. Good luck and happy hunting!

David Thorpe writes for [http://www.passion-trading.munbuns.com/forex/home.html]passion-trading.munbuns.com/forex. The site is full of free resources for forex traders and includes an extensive user review section including [http://www.passion-trading.munbuns.com/review/forex_broker_reviews.php?order=ASC]forex broker reviews.

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When you first start trading the forex market finding a broker is unlikely to be a major concern, aren’t all brokers the same anyway? Unfortunately this is not the case! Here we explore the pitfalls of the retail forex sector and how to avoid them.