When opening a Trading account, a critical review of the alternatives involves choosing between the various types of Brokers available to manage your trades. This represents an important decision because the type of Broker selected will affect the quality of service you receive and transaction costs and spreads. Below, we describe the main types of brokers to help you make an informed decision.
What are Dealing Desks?
Before describing the different types of brokers, it is essential to clarify what a Dealing Desk is, as brokers' characteristics will depend on whether or not they manage one. A Dealing Desk is where brokers execute and negotiate financial instruments such as forex trades, stocks, commodities, and other instruments. In addition, professional traders on the Dealing Desk facilitate trades on behalf of their clients and can act as principals or intermediaries.
Types of Brokers
Brokers mainly differ in the type of services they offer, how they charge their commissions, and the markets they operate in. Below are the main types of brokers:
Stock Brokers: These intermediaries allow buying and selling stocks, bonds and other securities in the stock markets. These brokers charge commissions for their services and may offer advice and research services to their clients.
CFD Brokers: This type of Broker specialises in the forex market, facilitating the buying and selling of currencies, although they offer all types of assets through CFDs (Contracts for Difference). They often offer leverage to allow traders to trade large amounts of money with a relatively small investment.
Cryptocurrency Brokers: This type of Broker specialises in the cryptocurrency market, facilitating the buying and selling of digital currencies. Cryptocurrency brokers often offer leverage and other trading services but can also be very risky due to the cryptocurrency market's volatility.
Futures Brokers: These brokers focus on the futures market, obliging contract parties to buy or sell an asset at a predetermined date. Futures brokers charge commissions and often offer advisory and research services.
Binary Options Brokers: This type of Broker allows traders to bet on the future direction of the price of an asset without actually buying the underlying asset. Binary options can be a high-risk form of speculation, and many financial regulators have banned their marketing in some countries.
Next, we will delve deeper into the main subcategories of these types of financial intermediaries.
Types of Stock Brokers
Full-service brokers
These brokers offer diverse investment services, from financial planning and portfolio management to stock research and investment advice. Full-service brokers often charge higher commissions than other brokers but also offer a high level of personalised service.
Discount Brokers
These brokers offer stock buying and selling services at lower prices than full-service brokers. Often, discount brokers have an easy-to-use online trading platform and offer a wide range of research and analysis tools, but they do not offer personalised investment advice.
Online stock brokers
These brokers offer stock buying and selling services through an online platform. In addition, they offer an easy-to-use interface and access to various research and analysis tools. As a result, online stock brokers generally have lower fees than full-service and discount brokers.
Deep discount stock brokers
These brokers offer the lowest prices for buying and selling stocks but do not offer many other services. Deep discount brokers are a good option for investors willing to do their research and make their own investment decisions without the advice of a broker.
Types of Forex & CFDs Brokers
ECN Brokers (Electronic Communications Network)
An Electronic Communications Network or ECN broker does not have a dealing desk. Instead, it provides a trading platform on which professional market makers in banks, traders, and other market participants can enter buy and sell orders through its system.
STP Brokers (Straight Through Processing)
STP is a different brokerage model in which the Broker sends orders directly to the market without going through a dealing desk. An STP Broker promises to offer a highly transparent trading environment without conflicts of interest with its clients. So far, it sounds like the ECN type.
STP accounts cannot be considered a perfect alternative to ECN accounts. ECN accounts are purely a no-dealing desk model that allows trading in real-time by directly sending orders to them. On the other hand, STP accounts are considered more of a hybrid of ECN and Market Maker models (a broker with a dealing desk).
DMA Brokers (Direct Market Access)
DMA brokers are abundant, although it's hard to know where to start when choosing which one to trade with.
A DMA broker is an execution model that allows traders to place buy and sell orders directly on the order books. Therefore, traders enjoy greater market visibility as they interact directly with the market exchanges. A DMA system is not based on aggregating orders (like other dealing desk alternatives) off-exchange. Thus, investors can choose their prices as it offers the best composite quotes from multiple forex quote providers, giving the DMA broker its market liquidity. The main difference between ECN and DMA brokers is that DMA brokers make individual contracts with each liquidity provider. In contrast, ECN brokers are connected to anonymous ECN networks without direct agreements.
Usually, each of these providers will publish their best markets to the DMA broker. Then, the Broker executes, monitors and completes client transactions accordingly. The DMA forex broker usually charges a commission or widens the bid/ask spread to make a small profit on each executed trade. Sometimes, they benefit from both alternatives.
Market Maker Brokers (MM)
A Market Maker Broker is a radically different type of Broker. Typically, they will offer their clients a two-sided market from a specialised forex trader operating as part of the Broker's internal dealing desk. As a result, a Market Maker usually takes the other side of any transaction from its client by either buying on its bid side or selling on its offer side of the quoted price.
The Market Maker aims to capture a portion of the spread and make enough volume on both sides (buy and offer) to avoid laying off the accumulated risk with another professional counterparty. Laying off this risk costs the broker money; the counterparty is usually a large bank (or a bigger one). Additionally, if the executed trade is large enough, the Market Maker will immediately offset the transaction, especially if it believes the market could move against it. Alternatively, depending on their market outlook and the transaction's size, they may add it to their trading book.
Types of Cryptocurrency Brokers
OTC Cryptocurrency Broker
These brokers allow customers to buy and sell cryptocurrencies directly to the Broker instead of trading on a public exchange. As a result, OTC brokers can offer higher trading volumes and personalised and discrete services for large transactions but often charge higher fees than public exchanges.
Web-Based Cryptocurrency Broker
These brokers allow users to buy and sell cryptocurrencies through an online platform. Often, these brokers offer a user-friendly interface and access to various cryptocurrencies, but sometimes their services may be limited compared to public exchanges.
Leveraged Cryptocurrency Broker
These brokers allow traders to trade with leverage to increase their potential profits. This means traders can invest more than they have in their account to maximise their gains and increase their losses if the trade does not go as expected.
Decentralised Cryptocurrency Broker
These brokers operate on a decentralised network without intermediaries, meaning no centralised intermediary is involved in buying and selling cryptocurrencies. Instead, users can connect directly with other users to buy and sell cryptocurrencies. This type of Broker offers greater privacy and security but often has lower liquidity and a less user-friendly interface.