What is a forex liquidity provider?
Forex Liquidity providers are financial institutions that own or have access to a large pool of currencies, and lend them to smaller firms (with fees and/or interests) in order to help them to execute trades and orders in the forex market.
These financial firms, depending on the amount of currency at their disposal, can be divided into Tier-1 liquidity providers and Tier-2 liquidity providers.
Both types of liquidity providers act as a Market Maker as they offer liquidity to their clients, set their own prices and commission, as well as being the counterparty of the trade, so essentially not providing direct market access to traders.
What are Tier 1 and Tier 2 liquidity providers?
Among the major Tier 1 liquidity providers we can find large banks and financial institutions, while Tier 2 liquidity providers include liquidity aggregators (e.g. middle-sized forex brokers and other financial firms).
Tier 1 liquidity providers accept only large volume orders, which smaller brokers cannot get. There are different types of liquidity providers in the world, but in the forex world, the main ones are Deutsche Bank, UBS, and Barclays Capital.
If a forex broker does not generate enough volumes to ask for liquidity from a Tier-1 firm, they use Tier-2 liquidity providers. Tier-2 Liquidity providers, also known as Prime of Prime (PoP) or liquidity aggregators, act as a bridge between smaller market participants and Tier-1 liquidity providers.
PoP firms are mostly non bank liquidity providers. They are prime brokers that have an account with a tier 1 bank and their main task is to aggregate numerous small volume orders (from small forex brokers) in order to send big volumes orders to tier 1 providers. This is why tier 2 are also known as “liquidity aggregators.”
Tier 2 liquidity providers are sometimes forex brokers who are large, well-known, and reliable enough to aggregate orders from smaller brokers. In fact, these include FXCM and Swissquote.
How does a liquidity provider work in forex
A liquidity provider works in the following way:
The client sends an order to a broker. This broker receives the order and lets market know that there is an order to fulfill. Liquidity providers then make an offer to the broker who processed the order from which, the broker chooses the best offer. The broker finalizes the client’s order using liquidity from the liquidity provider that provided the best offer.
What are the advantages of using a liquidity provider?
Liquidity providers help forex brokers to offer lower spreads to their clients, they make spreads more stable when the market is volatile, and help improve the trade execution speed.
Better Stability: when the market is volatile, traders are more active than usual. In this case, the broker may not have enough liquidity to execute the orders set by forex traders on their platform. This lack of liquidity can lead to higher spreads, large requotes and failing SL/TP orders.
Better trading conditions: more liquidity means that the broker can offer lower spreads to their clients, a smaller delay in the execution thanks to the deep liquidity, and a better accuracy in orders such as stop loss/take profit. This is especially true for smaller forex brokers, as they cannot supply their clients with enough liquidity, so they have to rely on liquidity providers.
Help to reduce requotes: When there is financial news, or when the London and New York markets overlap, forex markets become extremely volatile. In the absence of adequate liquidity pools to access, clients may experience large requotes on their orders.
How do liquidity providers earn money?
Liquidity providers earn primarily from the commissions generated by buying and selling currencies with their partners, though this is not the only way.
If broker finalizes the order using a liquidity provider, the liquidity provider will charge a small markup on the spread. A Liquidity provider’s spreads are usually around 0.1 pip per trade. The value of 1 pip, on the USD/EUR forex pair, is around 10 USD per 100,000 USD traded.
However, the value of 1 pip can change depending on the forex pair. For more information, you can take a look at this pip value calculator from Babypips.
Can a forex liquidity broker lose money?
Liquidity providers are market makers, consequently, they lose money if the counterparty takes a positive trade. However, market makers can choose to delegate the risk to other liquidity providers.
For instance, if a forex trader sets a “buy” order on EUR/USD, the forex broker he’s using will look for the best liquidity provider to satisfy that order. Once the forex broker chooses the right liquidity provider, the liquidity provider himself will run a risk analysis on that specific EUR/USD order. If the risk to take that order is too high, they might decide to refuse it. So the forex broker will have to look for liquidity providers that are willing to take that risk.
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How many fees do liquidity providers charge?
Liquidity providers typically charge a markup on the spread. A markup is an additional fee on the bid-ask of the forex pair. If EUR/USD trades at 0.95230, and there is a markup of 0,1 pip, the markup will cause the liquidity provider to supply the EUR/USD pair at 0.95231.
If the liquidity provider also acts as a white label, or offers additional services, they will charge fees. hedge funds large brokers direct market access to professional traders financial institutions.
5 Best Forex Liquidity Providers for Your Trading Needs
In the vast and intricate world of forex trading, liquidity is king. The ability to execute trades quickly and efficiently relies heavily on the strength of your liquidity provider. With numerous options available, selecting the right provider can significantly impact your trading experience. Here, we present five of the best forex liquidity providers that offer top-notch services to traders worldwide.
Choosing the Right Liquidity Provider with PT Rupiah Pay Capitals
As a one-stop forex brokerage solution provider, PT Rupiah Pay Capitals (RPC) offers comprehensive services to facilitate the establishment and growth of forex brokerages, prop firms, and cryptocurrency exchanges. With RPC's expertise and guidance, clients can navigate the complexities of the financial markets with ease.
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