An Introduction to Forex: Part 2 [Guest Post]

In the first part of our Introduction to Forex we talked about basic concepts and characteristics of Forex trading. In this part the focus is on the different types of Forex brokers. This should give you a clearer picture of how the Forex machine works, and how to select the right broker.

There are three main types of Forex brokers out there, namely Market Maker brokers, Electronic Communications Network (ECN) brokers and Straight Through Processing (STP) brokers. Each type operates and makes money in a different way, and it is important to know the difference before deciding which one to use.

Market Maker Brokers

Market Maker brokers are the most common. They are named Market Makers because they essentially “make” the market for their customers – they buy when a trader wants to sell and they sell when a trader wants to buy. Using a Market Maker broker, you will never see the real market quotes, because all your trades will be routed via the broker’s dealing desk. These brokers make money in two different ways. The first way is by quoting fixed spreads (the difference between buy and sell price). The second way is by hedging against their clients’ trades. This means the broker makes money every time you make a loss. Ridiculous, right?

The only real benefits of using a Market Maker broker are the low amount of funds required in order to open an account, and user-friendly trading platforms. The low amount required is mostly due to the high leverage offered, so you should put that into consideration before deciding to invest.

Electronic Communications Network Brokers

ECN brokers provide direct market access. That means you get access to the market where all of the players (i.e. banks, financial institutions, and individual traders) trade against each other in real-time. The price displayed by the broker is the actual inter-bank rate, and the spread is variable – sometimes the buy price can even equal the sell price. All of the placed orders are matched between the participating parties in real-time, and there is no dealing desk routing. Simply put, you gain access to the true Forex market. These brokers don’t make money by setting a spread, but rather by charging a commission on every trade executed. The height of the commission depends on the broker and on the amount traded.

The benefits of using an ECN broker are quite obvious. First of all, there can be nospread/price manipulation by the broker, since the price is quoted directly from the inter-bank market. Next, the spread is variable and that can be used to the trader’s advantage. Last but not least, your broker is not trading against you, like the evil Market Makers do. The only two flipsides worth mentioning are the high amount of funds needed in order to open an account, and a not-so-user-friendly platform.

Straight Through Processing Brokers

STP brokers are a sort of a hybrid between Market Makers and ECNs(but not really). They don’t route the orders via a dealing desk, meaning they send them directly to the liquidity providers – banks, for example.Traders gain access to real-time market quotes, and can execute trades without the intervention of dealers.The brokers make money not by charging commissions, but by adding markups to the spread.

The main benefit of using STP brokers lies in the bypass of dealer desks, which means the broker won’t profit when you make a loss – how decent of them. That being said, STPs still don’t grant the trader direct inter-bank access, which puts them at a disadvantage when compared to ECNs.

Which One Is Best?

So which one to choose? If you have enough money you are willing to invest, and don’t mind the increased complexity of their trading platforms, ECN brokers are definitely the way to go. They are superior to STP and Market Makers in almost every way, making them the right choice for anyone who wants to get serious about trading.

The above article is written by iMoney. Reproduced with permissions. All rights reserved.

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Related Posts:

1. An Introduction to Forex [Guest Post]

An Introduction to Forex [Guest Post]

Forex trading has become very popular in the last couple of years – pretty sure most of you have seen a Forex ad at some point while you were surfing the internet. But what exactly is Forex and how does it work? Forex is short for Foreign Exchange, or in other words, currency trading. It has been around on an inter-bank level for a long time but recent developments in technology and online trading platforms made it possible for every individual to give it a shot. It is the world’s largest financial market with a daily turnover in excess of 3 trillion USD and a very high level of liquidity. It is also open 24/5. This would make it a very attractive market to trade in right? While this might be true, it is important to know how Forex trading works in order to determine if it matches your investor personality. This article will explain some of the main principles that you need to consider.

Long and Short Positions

Having a long position is a commonality in all the financial markets. It means you have bought a stock, for example, and you are waiting for its price to appreciate. This is exactly the same in the Forex market. Having a short position, on the other hand, is a feature much more common in Forex trading than in other financial markets. It means that you have sold a currency pair you do not own and are anticipating the price to depreciate. At a certain point you then buy the currency pair back (this is called “covering”) at a lower price (making a profit) or at a higher price (making a loss). This might seem a bit confusing but it is a really simple principle. When you go short the broker basically lends the currency pair to you and when you buy it back, you return it. That’s all there is to it.

Leverage

One of the most important characteristics of Forex trading is leverage. Leverage simply means that you are not required to put up a full amount in order to control a position – you only need a margin amount. To give an example, if leverage is 1:100 (this is the leverage most commonly used in FX trading) you would only need $1000 to control a position worth $100,000. That means you get all the risks and benefits of holding a $100,000 position – if the price rises to $101,000 (1%), you have effectively made a 100% profit on your $1000 trade, assuming your position was long.

The important thing to remember here is that leverage is a two sided blade. It amplifies your gains and it also amplifies your losses. If the price dropped to $99,000 (1%) you would lose that $1000 you initiated your trade with. Additionally, if you didn’t have any funds in excess to that $1000 on your trading account, your position would automatically be closed by your broker. You always need to maintain a certain margin of the position value on your trading account (determined by the broker) in order to avoid automatic closing.

High Frequency of Trading

Another important aspect of Forex trading is the frequency and duration of trades. When someone says they are a long term trader in the stock market, they usually mean they are holding shares for years. When someone is a long term trader in Forex, they hold their position for a couple of weeks at most. The shortest trades in the Forex market can only last milliseconds. Those trades are programmed to have automatic execution and are done tens (or even hundreds) of times per day. This higher frequency of trading makes it more exciting, but it also requires you to invest more time in developing your strategy. If you are the kind of investor who prefers to keep his position open for long periods of time, Forex might not be the optimal choice.

Liquidity

Earlier I mentioned that the Forex market was open 24/5. This means you can trade Monday-Friday all day and all night. However, you need to realize that different currency pairs have different liquidity levels at different times. For example, the most liquid currency pair, EUR/USD, will have the most liquidity when US and European markets are open, so it makes sense to trade in that time slot. On the other hand, USD/SGD will see most of the trades executed when Singapore and US markets are open.

*The above article is contributed and written by iMoney Singapore

Read Part 2 here.

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Related Posts:
1. Explaining Personal Loans in Singapore [Guest Post]
2. How rising interest rate affects the housing loan you pay? [Guest Contribution]
3. Betting on a recovery?

Explaining Personal Loans in Singapore [Guest Post]

The following post is contributed by imoney.sg. I'm glad to be able to work with them to reach out to more readers on subjects related to financial planning and investments. You may have seen previous posts on housing loans which was also contributed by them. Some of my blog posts on SG young investment has also been featured on imoney site.

imoney started out in Malaysia and is now branching out to Singapore also. Their malaysia website has seen over 24k likes on their facebook page and the Singapore site which just started has already got 304 facebook page likes. Click here to access imoney site

Here is the post on personal loans:

Personal loans have become very popular and common in Singapore in the last decade. But what exactly is a personal loan and how does it work? A personal loan is an unsecured loan that is meant for personal usage – this means the bank won’t ask any explanation on what you are using the money for. As these loans are unsecured (meaning the bank does not ask for collateral) the interest rates will usually be higher than those on secured loans (car loans, mortgages, etc.). Another characteristic of personal loans is that they are short term, usually somewhere between 1 and 5 years, which means they are repaid much quicker than a mortgage, for example.

The question that naturally comes next is: if there is no collateral, what are the other criteria that banks look at to determine the loan amount? In Singapore, the banks look at your monthly income and usually determine the amount you can borrow as a multiple of that number. For example, if you earn S$5,000 per month and the bank offers up to 5x you income, you are eligible to borrow up to S$25,000. What about the costs associated with the loan? In addition to the interest rate, the banks usually charge an annual fee, somewhere between S$50 and S$90. Adding the two costs together will show what the total expense associated with a particular loan package is.

When Should You Consider Taking a Personal Loan?

While it might be tempting to take a personal loan to buy a new TV or take a nice holiday, for example, you should really consider whether it is worth doing so. The interest rates on personal loans in Singapore are high (between 9% and 18%) so you will most probably end up greatly overpaying that TV or holiday and regretting it later on. Personal loans are thus not the best way to finance such “entertainment” expenditures.

So when is taking a personal loan a good idea? There are a few occasions where a personal loan can actually help you reduce costs. One of those occasions is called debt consolidation. Debt consolidation simply means taking a personal loan in order to merge more of your outstanding loans into one, usually at a lowest interest rate. Another occasion where you might want to consider a personal loan is to cover a large credit card debt. As credit cards have incredibly high interest rates it makes sense to repay that debt with a loan that provides lower ones in order to save money.

Ultimately it makes sense to take a personal loan for things that will help you generate more income or create savings in the future. In addition to the two reasons mentioned above, other appropriate situations might be acquiring a professional education or investing in an asset that is quickly appreciating in value. If you think you are in need of a personal loan, be sure to compare the personal loans that are on offer by banks in Singapore!

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How rising interest rate affects the housing loan you pay? [Guest Contribution]

Interest rates are starting to rise and it affects the amount of loan that you pay for your housing mortgages. But how much will it affect you?

Look at the simple illustration below:

A Singaporean Guide to home buying fees and charges

Click Here for PDF

Inforgraphics provided by imoney.sg , a price comparison website dedicated to helping Singaporeans make the best use of your money.

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