ECN or MTF - choose a liquidity aggregator
Large financial institutions (banks and prime brokers) that form the international currency market are generally considered to be suppliers of quotations (or liquidity providers). Large players unite in networks for joint trading, from where brokers can broadcast quotes to their customers in the retail market.
Quote providers, aggregators and no manipulation!
There is no single correct supplier of quotations on e, every market participant can become market maker and organize your own exchange. What you see in the terminal is only a current market slice, indicative quotes, the real availability of liquidity on which is never guaranteed.
Quotes incoming into the terminal form a book of quotations - the prices of limit orders in conjunction with the volume. The best prices of the market are displayed on the chart in the form of Bid and Ask levels. Orders sent through the market indicate trades at the best prices of the cup. Below is an example of the order book from MetaTrader 5.
Everyone, hopefully, understands that the main purpose of trading for both banks and ordinary orthodox traders is to make money. With the largest capital, the banks have an advantageous position on the market and can dictate the terms of cooperation. On the other hand, this is unlikely to be a problem until you reach a particularly high turnover. Modern aggregators have already learned how to mask the flow of requests from individual profitable clients, which, to some extent, makes the market more honest and provides security against manipulation by the bank.
Large aggregators face the problem of aggregating orders from different sources and maintaining an up-to-date picture of the market. Roughly speaking, the more frequently the Quotes Depositary is updated, the more actual prices the trader receives. Under this scheme, it is possible that at the moment of sending an order the price is out of date. Such unfairness is partially compensated by the possibility to buy quotes from another provider, which is one of the main advantages of the aggregator.
Principles of Aggregators - ECN and MTF
The liquidity aggregator can be either the broker himself or a separate organization. First of all, Aggregators must be distinguished by the principle of operation. Now there are two main developing platforms on the market: ECN and MTF. Both systems aggregate orders from banks, brokers and individual clients, and both offer high speed execution.
Large providers like LMAX and CFH Clearing operate under the MTF scheme. Currenex and Integral, in turn, are some of the largest ECN providers. In the case of the MTF platform, the trader gets practically equal rights with the banks, as all requests are consolidated in a single bet. However, the tendency is that the large MTF-providers give up retail trading and focus on providing liquidity to institutions. The reason is the same banks and their unwillingness to share profits. Although, some ECNs also include MTF-providers.
ECN-aggregator
Let's start with defining the principle of the ECN-aggregator. ECN brings together the liquidity of many suppliers, and in theory allows you to get better prices and narrower spread.
How it works:
- The broker generates a market glass from the quotes of liquidity providers and limiters of the clients.
- Then two outcomes are possible:
- When the trader sends a limit order, the broker can overlap the volume with an order from another trader in the cup. If there is no matching counter order, the order is added to the cup.
- When a market order is sent, the broker finds out which of the suppliers owned the best quote and sends him a request to confirm the transaction.
If the supplier confirms the transaction, the order is executed. If the supplier cannot execute the order at the specified price, the order is redirected to other suppliers, or is returned to the trader with a new price (depending on the logic of the particular aggregator).
MTF aggregator
MTF aggregator is fundamentally different in that it has a centralized order book that both banks and ordinary traders can navigate. In theory, this gives virtually guaranteed execution at a set price, since the transaction does not require confirmation from the counterparty.
How it works:
- The broker forms the order book from suppliers' orders and traders' limit orders.
- The market order is executed automatically on the MTF exchange, the limit order is added to the cup.
- Both parties (liquidity provider and trader) are notified of a successful transaction.
Pros and cons of ECN and MTF
In fact, the traders' own orders in the ECN system are matched similar to the MTF, allowing turnover within the same company. But the real MTF gives some advantages in terms of execution quality, because the trader gets equal rights with other participants. Roughly speaking, the prices in the MTF marketplace can be trusted, when the quotes in the ECN are entirely indicative.
The execution guarantee is a distinct advantage, but prices tend to be worse in MTFs. For example, compare the average EUR/USD spread between FXOpen ECN and LMAX.
For me, the difference of two times is quite significant. Maybe with small slippages in the ECN can be put up with?
Choosing a supplier
In fact, it is not that important for a trader to know whether a particular vendor is present in the quotes feed. The quality of execution will be mainly influenced by the logics of the aggregator's work. The choice of technology is also not crucial, especially for the retail market it is almost always ECN. The only factor to consider is the profitability of the trading system of a certain broker.
For example, if clear execution is critical to your system, a broker with LMAX output is likely to be preferable. Although the difference will be almost imperceptible if you trade manually or with great frequency. Still, any aggregator offers one obvious advantage over brokers with in-house dealing. The fact is that your orders go to the providers anonymously, blending in with the general flow. This allows you to mask profitable clients from the gaze of market makers, so don't put yourself at risk by working with non-transparent companies.