What role does the broker infrastructure model play in your profitability?

The layout of a broker's trading infrastructure is usually not something that would capture the attention of too many traders. However, did you know that a surprisingly large number of brokers do not send their clients' trade orders to the real market, but rather create an artificial counterparty themselves are market makers? This creates motivation for order manipulation, which, on the other hand, is indeed something that traders should be interested in.

What is the broker infrastructure model?

The broker model refers to the way in which a broker's trading infrastructure is built to process the trading orders of its clients. While it may seem that way, when trading, an order entered by you into the platform may not always travel to the interbank market where it is then expected to be paired with an order from another trader or institution.

In fact, there are models that do not send your trade orders to the interbank market. Instead, they form a counterparty to your order immediately, on their side.

Market maker model (MM)

Brokers of this type are usually among the larger ones on the scene. In order to act as a counterparty to all their clients' trades, they need to have a really high level of liquidity. However, this could lend them a fair amount of motivation to meddle with the trading results of their clients. If it is a proven broker without a dark past, there is probably no reason to worry. However, there are known cases where even larger brokerage firms have artificially increased slippages, set minimum stop loss intervals, or influenced their clients' transactions in other similar ways.

The reason for this behavior is quite clear. In the MM model, all losing client trades go back to the broker (not to the interbank market, where they would end up in other broker operating models). Thus, brokers built on the MM model may have a vested interest in the loss-making performance of their own clients.

Schéma fungování MM brokera
Figure 1: Schematic of the MM broker's operation

STP model

From the "straight-through processing", brokers of this type have their infrastructure set up in such a way that they can only match their clients' orders with orders from so-called liquidity providers in the interbank market. The broker in this case charges a commission on each trade in the form of a slightly higher spread and matches clients with entities in the real market.

Liquidity providers (LP)

The quality of an STP broker is largely shaped by the nature of the liquidity providers with which it works.

  1. Another broker operating on a market maker model or a bank.

  2. MFT - multilateral trading facility - a type of exchange on which different participants are linked together.

  3. Prime of primes - this provider collects prices from the interbank market and combines them with other offers from financial institutions. This LP thus has the ability to provide the best prices to the broker's clients.

Market maker vs. STP broker

Figure 2: Difference between STP and MM broker model

Hybrid model

Combination of STP and MM models. A broker based on the hybrid model has the ability to send a certain part of client orders to the interbank market and act as a counterparty for the rest. The broker thus has the ability to "get rid" of profitable clients by sending their orders to an external entity.

How to find out which model is broker built on?

Recognizing a broker's model may not be easy at first as it requires at least a partial orientation on the broker's website. The safe bet, however, is to check the broker's license directly on the Regulators website. The information about the infrastructure model is listed there in black and white. Just look up whether the broker is authorised to "deal on own account". STP model brokerage will not have it there.

Ukázka typů služeb, které může podle své licence vykonávat Purple Trading
Figure 3: An example of the types of services Purple Trading can perform under its license (source: https://www.cysec.gov.cy/en-GB/entities/investment-firms/cypriot/72454/)

What role does the broker model play in your profitability?

While there is no way to equate a broker's model with the profitability of its clients, there are certain things that cannot be overlooked. While an STP broker has the same rate of earnings whether your trade is successful or not (because it profits from spreads), the MM and hybrid models can already benefit from your potential failures. Let's also mention the fact that by forming a counterparty to your trades on their side, these brokers potentially have the motivation to manipulate the market to their advantage. So as a trader, you logically have to wonder whether a broker who has such tools in his hand is not abusing them to enrich himself at your expense.

CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 76.60 % of retail investors lose their capital when trading CFDs with this provider. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.