A professional Forex trader will have no hesitation in answering the question of what NDD broker is. A majority of experienced traders will also be able to explain clearly how an STP broker or an ECN broker executes the incoming orders from a retail client. However, there is altogether a different category of brokerage firms, which are referred to as the Prime of Prime (PoP) brokers. This article will guide you on who they are exactly and how they act as a bridge between the Tier 1 liquidity providers (top level banks or other financial institutions) and retail foreign exchange firms.
Establishing an interbank market access is the first step towards setting up a Forex brokerage firm that can serve retail traders. However, a firm needs to meet the stringent requirements put forth by banks in order to gain an interbank market access. The process is both capital and technology intensive. More importantly, high level contacts within the banking circle may be required to get the process moving forward. Thus, establishing a prime broker relationship is not feasible for everyone and that is where a prime of prime broker steps in.
A PoP broker will have everything available readily for a company to set up its retail FX brokerage business in a short span of time. It is almost like offering a plug-and-play business solution. A prime of prime broker will have access to a Tier 1 liquidity. Additionally, it would also have the technical expertise to offer a non-latent interbank liquidity to a retail Forex broker. Using an industry-standard FIX (Financial Information eXchange) API, a PoP will be able to offer an aggregated data feed to popular trading platforms such as Meta Trader 4. So, what distinguishes a real PoP provider? There are some unique traits that only a PoP broker would have.
A PoP broker will:
In the aftermath of the 2008 financial crisis, prime brokers (Tier 1 liquidity firms) have considerably reduced their counterparty exposure to clients with a high risk profile. Even small and medium size funds are scrutinized thoroughly by banks, which are usually the prime brokers. If a firm is found to be undercapitalized, banks do not hesitate to break the relationship under the Basel III norm. Banks are now required to maintain a CET1 (Common Equity Tier 1 ratio) of 4.5%. To satisfy the rules, banks have tightened the leverage offered to retail Forex companies.
Incidents such as the Swiss National Bank’s abandonment of the cap on franc’s exchange rate against the euro, and currency exchange rate rigging scandals have forced banks to tighten up leverage and increase margin requirements. However, for a retail Forex broker, leverage is the lifeline. Additionally, very few retail trading companies have enough financial strength to set aside tens of millions in a segregated account with prime banks. Furthermore, retail brokers may or may not get the best quote while dealing with a single prime broker. Moreover, the frequency of requotes, if any, should be minimal, and orders should be quickly filled. Finally, a retail broker needs to constantly allocate capital on technical upgrades. Dealing with a PoP broker would eliminate these issues and a retail broker would be able to concentrate on acquiring customers. To sum it up, a retail company will have the following benefits while dealing with a PoP broker:
The demand for prime of prime services is only expected to increase in the years to come as banks are turning more and more stringent when accepting a new broker-client. Retail traders should be aware of this and prefer to deal only with those Forex brokers that have stable relationship with solid PoP intermediaries.