The decision to begin your own brokerage could be the logical step in the FX progression or a lifelong dream.  There are many different reasons why to start your own brokerage, but if your operation is not set up correctly, your brokerage could lose money and ultimately your investment.  Over the years, we have seen a change from the brokerage set up away from dealing desk(DD) to straight through processing (STP).  Most, if not all major retail brokerages prefer STP due to the consistency of profits, the difficulty and expense of forming / operating a successful dealing desk and retail clients have become more profitable over the years.

One of the first steps in forming your own brokerage is finding a liquidity provider (LP) that will provide pricing into your platform. Once lines of credit or margin are established, the decision has to be made how to handle the clients trades or flow.  STP is considered more of a consistent profit due to the fact that the brokerage is passing the client’s trades directly to the liquidity provider.  The brokerage receives pricing from the LP and adds a mark up to the raw feed and/or adds commission to each trade. By passing the client trade directly to the LP, the brokerage does not take the risk on the trade.  Therefore, the brokerage collects only the mark up and/or commission that was added to the clients trade.  Hence, more consistent profits on each trade.

The second reason a brokerage prefers STP is the difficulty of forming and operating a dealing desk.  A DD consists of taking the other side of the clients trades and not passing the trade to the LP.  By keeping the clients’ trade at the brokerage, the brokerage is taking on the risk or the other side of there clients trade.  That trade risk must either be managed or bucketed, either way, it adds a major financial concern to any brokerage.  If the brokerage decides to manage the risk, they will need a minimum of 6 seasoned traders with extensive knowledge and experience to correctly manage all of the clients flow 24 hours a day and 6 days a week.  This adds substantial overhead to any operation along with the additional capital requirements to be able to sustain adverse market movements.  Even with some of the industries best traders, it does not guarantee profit, and in some cases, generates losses.  Another form of DD is to bucket all clients trades at the brokerage (keep all trades in house without managing the risk) and hope the clients lose their capital.  Either form of DD is risky and does not produce consistent profitability and increases overhead expenses. The long term capital expenses continue as global regulatory rules become more strict and monitoring needs to be constant and consistent.

The third reason STP is preferable to a new brokerage is: retail clients have become more profitable over the past few years.  Though education, experience and EA’s, the retail client is more experienced and knowledgeable about what they are doing in the market.  With more profitable clients, EA’s and scalping robots, a DD will find it difficult to turn a profit and will turn away those profitable clients.  The STP brokerages welcome all types of clients and hopes the client makes money because the better the clients do, the more money they will generate for the brokerage.

The decision whether to use STP (trade with your clients) or DD (trade against your clients) model for a new brokerage is an important one. This decision will pave the way for either a more consistent profit and growth or put your new brokerage investment managing a larger risk.

 

For example, a client trades 10 round lots per day in USDJPY and makes an average 3 pips each trade in the 22 trading days for the month:

 

STP Brokerage Model	Dealing Desk Model
Brokerage take 0.1 on each trade & $5 per million commission STP Profit on Markups $20 daily and $440 Monthly STP Profit on Commission $10 daily and $220 Monthly Client makes $6,600 STP Brokerage makes $660	Brokerage take 0.1 on each trade & $5 per million commission DD Profit on Markups $20 daily and $440 Monthly DD Profit on Commission $10 daily and $220 Monthly Client makes $6,600 DD Brokerage makes $660 on mark up/ comm & nets a loss of -$5,940