Forex brokers

When I entered the Forex trading market, there are not many brokers for me to choose from, compared with those many stock brokers. But today, there are at least hundreds out there, and the number is still growing at a daunting rate.

What's all behind this?

Well, first reason is understandable. The Forex trading, like its predecessor - equity trading, has become more and more accessible to individual investors. Other than those professional speculators, individual investors can now play in this market with pretty low entry and trading costs. There is a demand, there is a supply. Comparing with the old retailing bank channel, professional brokers can provide low spread, low capital requirement, more currency pairs, higher leverage ratio (usually at least 1:50). It's not surprising to see the brokers to spring up.

But there are many other dirty reasons as well.

There is usually no commission fee charged for Forex trading. The fee is in the spread. The broker is the market maker and he can live on the spread. In a simple market without extreme price movement and with enough liquidity, the broker can live well. This can be testified from the profits of Citi and JP Morgan from their market maker roles in foreign exchange market.

By registering with a Forex broker, normally you are not pegged to a universal trading platform like NYSE or NASDAQ. Rather, you are in the broker's internal market. Of course, the theory of no-arbitrage must prevent a huge deviation. But who assures you that? The broker internal world is far from efficient.

In the old times, the brokers can be the middle man between a more tight interbank system and the platform they provide you. In other words, they are risk-free in an ideal trading scheme. Of course, in the highly volatile Forex market, they have to do some homework to make sure risk is minimized.

As the competition intensifies, this, for most brokers, doesn't work anymore. One thing now sometimes happens at certain brokers is the sudden price movement. Since many investors will hedge their trades with a stop loss, this information, public to the broker, can be well explored. I am not going into details too much, but this is quite possible. So one tip is don't set your stop loss level at some commonly recognized values, like EURUSD@1.50. Since the broker is usually hedged with an opposite position to yours, the more you lose, the more they gain.

The reason for all these traps lies in the fact that the brokers are also speculators. They have the traders' information and can make well use of that. Even though there are many ways to avoid such conflicts of interests. For novice traders, it's still dangerous.