Part Two: Trust & Verify

The origins of the Comparic portal are derived mainly from our experience with brokers.

As traders we spent many hours analyzing broker offers and thousands of hours using real trading accounts under different guises.

As editors of Comparic, we are willing to talk with traders about their experiences and listen to what they have to say about different companies in the industry. Some time ago we discussed the most important issues with which you be familiar when choosing a broker – How to choose a Forex broker?

In this article, we will try to present the issue from a more practical side using actual experiences and recent events. First of all, it seems reasonable to apply the principle of “trust and verify” in each case.

The principle, which relates more to relationships, is also applicable to marriages of convenience; our “marriage to our broker. It must be impossible to work with a broker you don’t trust!. Trust is the single most important facet of the relationship.

Honesty from the beginning

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In the article How to choose a Forex broker? we described the impact of regulations and their importance to the security of our investments. This point needs to be developed since human ingenuity has no bounds.

If a broker operates in one of the major centres; UK, Australia, New Zealand, etc. they tend to be perceived as safe.  However, they trading entity can just be a marketing office and the primary registered office is in a country with, shall we say, less than stringent regulation. It is VITAL to understand the jurisdiction under which your broker is regulated not where the office sits.

This is often connected with another scam which I encountered while browsing the rules of a broker based in the UK.

This broker had a beautiful website, contact numbers to the United Kingdom and information of liability under the FCA. The documentation, which many traders do not read,  showed that while the broker had the same name, the client’s agreement would be with a broker domiciled in a place similar to what I have described above.

It is also vitally important to understand exactly what your broker is licensed to to. It is worth contacting the regulator, explaining your plans and then asking if ABC or XYZ broker is authorised to undertake trading in those products

Segregation of capital

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It is not enough to ask the broker if your capital is safe; he is bound to reply in the affirmative. You need to CHECK. Again ask the regulator to confirm that the brokers regulatory license includes segregated funds.

A bankruptcy for a broker may mean anything and doesn’t actually have to be something that was illegal or even unethical. However an issue arises, your funds should be safe and be returned to you once any outstanding trades have been liquidated.

The is absolutely no reason to feel otherwise.

Market Disruption and Turmoil

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In January 2016, the Swiss National Bank decided that it was going to remove the peg which kept its currency artificially weak against the Euro. Traders had been taking advantage of the peg knowing as they did the absolute low to which the EUR/CHF rate could fall.

The rise in the value of the CHF caused mayhem. Brokers were made bankrupt. Positions were closed well away from the stop loss level with brokers citing market disruption. Greed is a characteristic of traders. Good or bad? Who knows. A lot of accounts and a number of brokers were wiped out that day and a lesson was learned by most. However, a number of “new” or “novice” traders were totally unaware of the underlying support the SNB had been providing. IT was just “how it was”.

Even traders with no exposure to the CHF were left worrying how safe their capital was.

Straight Through Processing

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The dictionary definition of a broker is as follows: “a person who buys and sells goods or assets for others”.

The optimum part of the definition is “for others”. He is not a principal to the trade. In the FX market your broker provides conduit between you and the market. So he buys and sells for others.

So called “B” booking where the broker becomes the principal brings all sorts of issues of underhand practices but in theory it shouldn’t. As a trader do you really care who is on the “other side” of your trade? What difference does it make? You have done all the due diligence, you have decided on a position since you have received a signal and verified it.

Well a broker who “B” books you makes money when you lose and that simple idea leads into all kinds of issues. Brokers are now STP; although that means Straight Through Processing it could also just as well mean “straight to profit” or any other phrase which means the trader is getting ripped off.

STP is when a broker simply “handles the trade, does all the admin but the risk is handed on to the liquidity provider (LP). This is not a complete solution since the LP could be “B” booking and handing the profit back to the broker. The LP could be an affiliate, the parent of a sub-division of the broker. All such practices are banned and a report to the regulator is the very least a trader should do to ensure a “level playing field”.

If your broker interferes with your order eg. by means of the so-called dealer cancels the order and deletes them from your system most likely model STP is fictional.

Check how the broker’s execution model works

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Has the broker removed your order from the system saying that he will handle it for you? If he has then he is not handling it STP and is looking to take points upon execution.

At times of stress certain brokers, as in the case of the SNB, will lose money. Again, why? If they are STP they run no risk other than t be able to deal with margin  calls and the other side of that is their customer’s margin. IN the SNB case, brokers were “running” client stops but when they cut the positions the margins didn’t cover the losses and the broker was left with a deficit between where he had deal with the LP and the level of the stop loss. Having told the client all traders were STP, he couldn’t very well go back and say in actual fact he was running the position.

MT4 is a broker, not a dealer platform

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The MT4 platform was not created, despite appearances, for traders but for brokers. It is obvious in the differences between the capabilities of a merchant terminal and the stationary version.

The client platform still leaves much to be desired despite a few late and controversial updates.

On the other hand, a range of facilities are available to brokers that give them the opportunity to virtually control the behavior of prices, spreads and other parameters of the trade, as well as the accounts of customers and their activity.

Using the “Virtual Dealer” broker can for example set the time of execution of our order, cause problems with opening and closing positions, or control records on customer accounts.

Moreover, MT4 was originally created as a tool for trade between broker and a Market Maker.

For STP to function properly requires a bridge by which broker operating in an MT4 environment can pass the order on to the broader market.

The MT4 platform is widely popular among brokers, but not because of its trader friendly interface, but in its usefulness to brokers. Then there are also other aspects, such as the price structure and the possibility of implementation, but they are not the subject of this article.

Access to the Market

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In an ideal world, every trader would have direct access to the market. There is no way to achieve this given the constraints of credit, margin and other practical issues.

The FX market exists wherever we want it to exist. There is  no central repository like there is in stock trading where we don’t care about the broker and can sell through one and buy through another linking or safe custody accounts accordingly. For now the brokers have control.

You must remember dealing with leverage needs the mechanisms that are in place to make it work. As in the case of he SBB issue, direct access to the market can be dangerous.

Conflicts of interest are rife when you deal through an intermediary. How do you know that you are dealing at the market price and not ne manufactured by the broker to suit him? It comes back to trust simply because we cannot access sufficient data to know what is happening exactly.

In the U.K. there is a product named Spread Betting where a bet is placed on the price of a financial instrument. Since It is gambling, it attracts no income tax but given you are solely reliant upon the “bookmaker” as your broker the reliability of the price is sometimes questioned.

Spread is not everything

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The quality of the broker’s service is paramount and is second only to security of funds. The issue of trust when executing orders is a major issue. When executing a stop in EUR/USD at, say, 1.1500 and the execution  is at 1.1502, is that acceptable? It depends. I would say yes since it is entirely possible that when  the 1.1500 offer was paid, the next was at 1.1502. There is no excuse, however, for slippage of 8-10 points which I have seen many times.

There is no way to judge such things without testing the water. Spread is a nice to have but slippage is vital so don’t be drawn in by tight spreads, you are paying elsewhere.

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Customer service and Language services

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Being able to quickly and efficiently deal with problems that will inevitably come up is a must. Feeling that the broker understands the issue and is being fair will produce a good relationship.

Something as simple as being able to speak to your broker in your native tongue is a massive benefit.

There are masses and masses of stories regarding how brokers deal with queries nd complaints and the regulators tend to be “hot” on them. Relationship and marriage to a broker and individual but remember it doesn’t have to be for ever but equally the grass isn’t always greener elsewhere.

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