How to Choose a Forex Broker

So you've decided to learn to trade foreign exchange. Before you can make your first million dollars, you're going to have to choose a broker. This is one of the most important decisions in trading process and one that I suspect is often overlooked. Nearly all first time traders looking for a broker obsess about spread, Spread, SPREAD. Let me set the record straight. While the cost of the spread has an effect on your bottom line at the end of the month, it is nowhere near the most important factor when choosing a broker. Beyond this, all spreads are not created equal and cannot be compared apples to apples. I spent nearly two months researching brokers before I made my first deposit and I'll share what I learned to save you some time.

The four most important considerations when choosing a Forex Broker (in order) are...

1. Track Record, Reputation, and Integrity
2. Price Dealing Method (Market Maker or ECN/STP?)
3. Customer Support and Platform Stability 
4. Spread and Pricing (a distant 4th)

Let's look at them one by one...

1. Reputation
Until just recently, the retail foreign exchange brokers have been largely unregulated. It's been more or less like the wild west, and their have been literally dozens of start-up Forex brokers that have turned out to be Ponzi schemes, designed only to siphon off customer assets. When choosing a broker, make sure you pick one with an existing reputation, that has been in business for at least 4 years, and has generally positive customer reviews. The best website for checking Forex broker reviews is Forex Peace Army.You want a broker that has a good record of prompt and consistent payouts of profits from winning accounts, and good customer support in case problems pop up.

2. Price Dealing Method
There are two main ways Forex brokers allow you to trade. The first is known as the Dealing Desk method where the broker essentially acts as the market maker, taking the opposite side of every trade you make. The problem with this method, is that the broker has a vested interest in you losing money. After all, in a zero sum game, every dollar you make is a dollar out of the broker's pocket. Now granted, as a market maker the broker still profits from the spread and in the long run this can lead to substantial profitability, but the conflict of interest generated by the Dealing Desk method has historically led to some problems. Market Maker brokers have been known to do the following:

• Fill market orders at a price other than where it was executed
• Charge negative slippage but never credit positive slippage to the trader
• Quote different prices to different traders at the same time in the same market
• Artificially move the market to hit stop loss levels of their own clients

The 2nd category of Forex brokers includes STP or ECN brokers. These brokers provide essentially the same service in a slightly different manner. Both STP and ECN brokers act as intermediaries in the FX market instead of Market Makers. Essentially they will take your trade order and pass it along to the interbank market where it can be executed. They match you order with another anonymous order in a big pool of liquidity (instead of taking the other side of the trade themselves) and they charge you a small price for this service. The difference between STP and ECN brokers is the way in which this fee is charged.

STP Brokers make their profit from marking up the spread on a currency pair. For example, if the true Interbank spread on the EUR/USD is currently 1 pip, they might show you a spread of 2 pips in your trading platform. The 1 pip difference between the price you see and the actual price is the broker's profit.

ECN Brokers have a more transparent commission method. The price they quote you will be very nearly equal to the current Interbank spread, but they will charge a fixed commission per each amount of a currency traded on both sides of the trade (buy and sell). For example, an ECN broker may show a spread of 1 pip on the EUR/USD and charge a commission of $5 per $100,000 traded. Since 1 Contract of EUR/USD is 100,000 Euros, roughly equal to $130,000 USD, you would be charged a roundtrip commission of $13. This would actually be slightly more expensive than making the same trade at the STP broker mentioned in the earlier example, because 1 pip of EUR/USD is worth $10 per contract. This is not to say STP brokers are cheaper than ECN brokers or vice versa, it all comes down to the commission price and the spread markup of each.

Bottom line, you want to trade using an STP or ECN broker. Do not open an account with a broker that uses the dealing desk method.

3. Customer Support/ Platform Stability
This is one of the most overlooked aspects when it comes to choosing a broker, but extremely important. What good are tight spreads if your trading platform crashes when you have a large position on. It may end up costing you 100 times the price of the spread. Customer support is equally important. You want to make certain that you can talk to a human being when you have technical issues or account issues, and need them instantly resolved. All of the top tier brokers have live 24 hr phone support and most have live chat support to help with any issues. ForexPeaceArmy.Com is a good resource to for reviews.

4. The Spread
The spread is the price you pay for opening each position and the size of it will have an impact on your end of month results. The shorty time frame you trade on, the more important the cost of the spread is. If you trade using daily charts, the price of the spread will have an almost negligible effect on your profits as each trade will be netting or losing hundreds of pips on average, so what's 1 pip more or less. If on the other hand you are trading extremely short time frames like 1 hr, 15 minute or 5 minute (good luck) charts, the cost of the spread may be much more significant. A good source for comparing broker spreads is FXIntel. They have live spreads during Forex market hours for many of the brokers available to U.S. clients.

Some things to keep in mind.

• Don't be fooled by fixed spreads. If you find a broker offering fixed (non variable) spreads, they are a market maker and must be avoided. Liquidity changes in the Interbank market based on time of day, and as a result the spread will widen or shrink. If you're broker is passing accurate spreads on to you, they will change based on liquidity as well. If you want the tightest spreads, trade between 3am and 3pm EST when the FX markets see maximum volume.
• All spreads are not created equal. Even if you have a broker with good spreads, if you constantly are receiving slippage on your orders, your costs are going to increase beyond the spread. If you are getting slipped constantly, switch brokers.

Increase your Edge. Get Spread REBATES!
 If you sign up for your FX broker through certain websites, you can get a portion of the spread you pay rebated to you each month. It can be a nice boost on profitability, especially on small accounts, or can keep you in the game after a losing month. Just be careful not to over-trade in order to increase your rebate. There are several websites that offer this service, you can check their reviews online. The one I use for my own account is called Cash Back Forex USA. 

Good luck in your search for the perfect broker. Let me know if you find it!