Market Makers and ECN Brokers

What is the difference between Market Makers and ECN (Electronic Currency Network) brokers? In a nutshell, a Market Maker will quote a buy and a sell price to the trader. This is the price the broker is willing to sell you a currency and the price they are willing to buy it back from you.

This means that they are buying from you and they are selling to you, which also means that they can ‘fix’ the price of the currency pair if they are crooks. But fixing of prices does not happen in most cases because the quotes are being streamed in from the MT4 servers in London to all brokers. But technology being what it is, we never can tell if they have found a crack.

However, some brokers allow their trader clients to trade with each other. This makes them a different kind of market maker. The trade is not leaving the brokers private network. When one of the broker’s clients is selling another client’s order is matched and the order executed. This way the broker does not have to hedge an order or trade against the trader. It’s a fair exchange between two traders using the same broker.

This also means that, being an economical way of matching orders, I mean, not having to pay an ECN a minimum per-transaction cost, the ECN broker may match small orders with traders within the brokerage and not pass the trade on to an outside source. The broker saves on transaction costs. This also means that every ECN broker is also a Market Maker at some time or the other. Only the huge trades, where the commissions and spreads cover the order transaction cost charged by the ECN, make it to the ECN else they are match with ‘in-house’ (to coin a name) orders and executed.

Speaking of ECN brokers, they are the guys that connect their traders to one of the few popular ECNs such as the Currenex ECN. This is the place where the big boys, such as the banks and multinational financial institutions, trade forex.

On the ECN, one can see the real price of the currencies and the broker has nothing to gain or lose by fixing the prices because the trader is trading with external traders, not traders with the same broker. Most ECN brokers first match the orders with in-house traders before sending the order to the ECN. Prices on the ECN move very fast, making it a heaven for scalpers and no risk for brokers. All the broker’s gains are from the spread and the commission.

How to tell if the broker is actually offering a true ECN account? A rule of thumb is to see if the pips are ‘fixed pips.’ The ECN broker’s PIPS should vary and the broker will charge a commission for each trade too. The pips will also be displayed in the fifth decimal (though this is not a hard and fast rule for ECN brokers).

I always prefer to use a regulated ECN broker because trades are guaranteed, there is a lot of transparency and the cost per trade is much lower.