Forex ECN | A walk through the types of brokers
What is a Forex ECN?
Straight forward definition, not very different from what you will find online, ECN stands for Electronic Communication Network. Simply put a forex ECN is a type of execution that allows a trader to place orders through the Interbank Market, in a more transparent and direct manner than trading against a single forex broker. As we all know, trading against a single broker can have disastrous results in a trader’s account, with so many of them running clandestine dealing rooms in a dark corner of the world.
That being said, not everyone’s the same – through our Sales Training service, we’ve come to get to know market makers that run amazing backend operations, big enough not to worry about specific accounts but rather decide on a daily basis the strategy they will use to handle their overall volumes. Irrespective of their size though, the term market maker still implies a fully operational dealing room in who’s discretion, trades are being executed with strategies in favour of the mothership.
Before we look deeper into the nature of a forex ECN, ponder this – a broker that attracts traders onto its ECN platform is looking for a “cleaner” relationship, since profits are derived from volumes traded and not money deposited in the trader’s account. True ECN brokers are indeed on the side of the traders, supporting their winning strategies, knowing that it will inevitably increase trading volumes.
How does a forex ECN work?
Throughout the years, technological advancements supported the development of systems that helped to facilitate dealing in OTC derivatives such as currency exchange rates. Back in the day, only a handful of companies were able to provide bridges that connected trading platforms with liquidity providers.
The Interbank Market, the market that ECN connects to, consists of Banks and large financial institutions that push their liquidity and volumes of transactions in a manner that allows transparency, anonymity and reliability to each trade that requires its liquidity.
Through a forex ECN trading platform provided by the broker, a trader gains access to deeper liquidity and an execution policy unlike any other. Once an order is placed by a trader, irrespective of buying or selling, the system will provide the best possible (best bid or best ask) price available at that instant.
So the system itself is acting as a dealer, therefore cancelling the manual dealing rooms that are normally handling trader’s quotes in a market making environment. A forex broker that does not operate a dealing room is also referred to as a No Dealing Desk or NDD broker.
Technology behind Forex ECN
What’s better than receiving orders in fractions of a second (milliseconds) as if you were placing your order standing (or sitting) with your laptop at the major data centres in New York and/or London?
The Equinix data centres with their fibre optic cables are recognised to be the fastest, most reliable price sources in the world. Low latency connections, lightning fast executions, reliable trading conditions are some of the advantages that NY4 and LD5 provide and it’s the reason that leading true forex ECN brokers use them for connections and advanced price aggregations with major liquidity providers and pools.
Trading with a Forex ECN account
All brokers that claim to offer forex ECN accounts should show order information and exchange rates in real time. This includes orders processed as well as the prices offered by banks. It ensures transparency in a world where most forex brokers used to run chop shops in dark corners of the world and profiting from the “not so known” price aggregation and price filling at their discretion.
For scalpers and traders that follow high market volatility, typically due to major fundamental announcements (like the Non-Farm Payrolls report), a forex ECN account is the best option since it basically eliminates price manipulation and the dreaded re-quotes. Re-quotes occur especially during high volatility, where the forex broker rejects a price asked from a trader (claiming the market moved) and provides a re-quote that rarely benefits the trader.
This “no-human intervention” is also what defines an STP (Straight Through Process) broker, that uses no dealing room but instead sends the quotes straight through to liquidity providers or an ECN, and only acts as an intermediary. It might be wise to ask a forex broker that claims to offer an STP model, which liquidity providers are used, in order to have a clear picture of the relationship. If looking into a forex ECN account, the term STP/ECN usually go together since the connection is done by straight through process into an ECN trading environment.
Another term introduced with forex ECN is the Direct Market Access or DMA, which refers to the connection of a trader to “a” market (not necessarily an ECN environment, but trades could also be sent directly to major liquidity providers/market makers) that would essentially fill the price. So it’s important to differentiate DMA with ECN unless specified by the broker and substantiated by the order information/real time exchange rates that normally characterise a forex ECN broker.
Spreads in a forex ECN account
A forex ECN account should actually have no spreads marked up by the broker, but instead commissions charged per single transaction (not so much the case nowadays). Since the broker does not benefit from risk management and hedging activities, these commissions serve as compensation for bridging the traders with the Interbank Market. Spreads in a forex ECN account can reach 0 and in extremely rare cases it could even go below 0 (not sure if this even happens anymore, except when ECN was first introduced) – very similar case with the Inverted Spreads (a major recession indicator) where a long term instrument yields less return than a short term instrument, resulting in an inverted scenario. In the past, our Sales Training “borrowed” the term Inverted Spreads to point out to our Sales Reps how real and non-manipulated ECN prices can be.
Disclosure
All information included in this article is for informational purposes only – it does not intend to provide advice to anyone to follow or not a specific type of broker or services.
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