Forex has been growing quickly in the last decade, and more and more methods and ways of trading are being invented every day in the market. Broker companies reinvent ways of trading with the aim to make it easier on the traders and to profit from their idea. Currency trading can take place in many forms, and STP is one of them. It is similar to ECN, but it is actually something in between the dealing desk broker or market maker and the ECN broker. It is the so-called middle way with its own specific features.
What is STP?
The Straight Through Processing (STP) is a type of brokerage service where the broker sends orders directly to liquidity providers (banks and larger brokers) which were placed by their clients. It is straight-through because it does not involve a dealing desk and delays and requotes are reduced to a minimum.
Market Hierarchy and Participants
Traders should raise their awareness and think about how trades are placed and by whom. They need to know about these other participants and what kind of broker-dealer they have. Is it a market maker, ECN, etc.? The brokerage process can be considered as a two-part operation consisting of the front and back end. The front end represents what is displayed on the platform, or what is presented to the traders, like open orders, charts, currency pairs, etc. The back end refers to the broker.
There are four major participants in the process of placing and executing of orders. These are the buyer, the seller, the broker, and the liquidity provider. Sellers and buyers are brought together by the broker and they represent the counter-parties, whereby the liquidity provider sets the quotes and pricing for the other participants. Given that Forex trading takes place online, the STP brokers’ job is to match traders’ orders with the corresponding counter-parties which are willing to take the order at a specified price. A liquidity provider, dealing desk broker, or another trader can be the corresponding counter-parties of the initial trader.
Conflict of Interest and the Trading Course
If the counterparty is either another trader or a dealing desk broker, chances of conflict of interest are high. Most of the time, traders have to opt for this variant due to the nature of the market. All of these in-between convenient methods have their price. Let’s illustrate the harsh reality of the market. The market abounds in small traders (traders with low capital). Given that the market refers to money trading, it needs liquidity, and liquidity providers are not willing to sell to small traders because it would not be profitable tor them. Therefore, market makers buy large volumes of trades from liquidity providers and chop them into smaller parts and offer them to small traders.
On the other hand, STP brokers offer direct market access to several liquidity providers who offer the same currency at different prices. Nevertheless, small traders are also not the target group here, and they cannot afford to use this service. Traders are required to trade larger volumes to access the service which comes with a commission. Spreads depend on market conditions and they can vary with the STP broker. The order is directly sent to the interbank market, thus skipping a dealing desk platform.
STP and ECN
STP and ECN brokers work on similar principles. Both represent a sort of intermediary between traders and the market, linking them directly to the best quotes. Both have successfully avoided a conflict of interest by assuming a neutral role. Their profit does not depend on failed trades. They earn their share of whether the traders win or lose. They are not the liquidity providers and simply redirect their clients to a third party (the liquidity provider). Also, both use the same pattern to make some profit themselves from the services they offer. As already said, they charge a commission, but sometimes they just add few pips to the spread. In that case, they get the profits from the extra spread. Usually, 1, 2, or 3 pips are added to the actual market spread. The main difference between ECN and STP is that STP sometimes acts as the market (like market makers), and ECN just provides access to the market and never acts directly as a market.
As already stated, the first (and probably the most important) benefit is that there is no conflict of interest. Scalpers can use one strategy for all trades and not being accused of scalping. They stay anonymous and do not have to fear any sanctions, exclusion, requotes, etc. Better execution and access to the market are some of the benefits traders appreciate the most. They are enabled to compare the different prices by different liquidity providers and their trading is not limited to one source of information as in the case with dealing desk brokers.STP brokers exclude often very stressful requotes and delays.
Just like everything else, the SPN brokers have some shortcomings as well. They are not the best fit for small traders given that the minimum trading volume exceeds the capacities of traders with low capital. The service fees are also a setback for traders who rather stick to regular brokers who do not charge fees or commissions. It is obvious that small traders have nothing else left but to hold on to their dealing desk broker where they can afford to trade. Some brokers will also simply state that they are an STP broker, whereby, in reality, they are not. These brokers sometimes do both, market making for losing traders and STP for winners.
This review focused on the Forex hierarchy and the many levels of market access. STP is one of the ways to access the market under better conditions (better quotes, more liquidity providers, etc.). Still, traders need to meet certain trading criteria in order to sign up with an STP broker. This broker, just like the ECN network, is more suitable for large investors and traders with more capital. It seems that small traders cannot circumvent desk dealing brokers unless they increase their investments. STP is very convenient, and better offers found with this broker might be worth a larger investment.