When you want to profit from the forex market, you strictly need to have a broker. Remember, your broker lets you speculate the price movement and access the market.
But you may ask, "Does an A-Book route my trade directly to the actual forex market?"
Honestly, most brokers don't. But there are some! And they are called A-Book brokers. In this lesson, you'll walk through the concept of A-Book trading.
Lesson Highlights
- A-Booking is a form of forex execution level. The execution level represents how and where the forex brokers execute their clients’ trades.
- A-Book brokers don’t take the other side of the trade transaction. Rather, they directly route their clients' trades to the market without any intervention.
- The primary revenue streams of A-Book brokers are through spread markups and commissions.
What Is A-Book Broker?
A-Booking is among the forex execution levels brokers use to operate their business. Essentially, the execution level represents how and where the brokers execute their customer's orders.
In the case of A-Book traders, their customers' orders are directly executed to the forex market. They take the opposite side of your trade but transfer the market risks to their respective liquidity provider.
To do that, they essentially open a trade that mirrors the customer's trade and execute it to a liquidity provider.
Offloading the market risks to the liquidity provider ensures the broker manages the risk and protects the customers' interests. With this, the customer and the broker will not operate like a seesaw. Essentially, when the customer profits from the market, the broker will not incur losses.
How A-Book Broker Offload Market Risks
As I've said, your broker "A-Booked" trades when they take the opposite of your position and transfer the market risk to its liquidity provider. This process is called the offloading of market risks.
Essentially, your A-Book broker does not want to have an inverse relationship with your position to protect your trading interest. What they do is take the opposite side of your trade, copy your trade, and execute it to the liquidity provider.
Sounds mouthful, right? Here's what an A-Book broker does when you execute a "buy" order with them:
- The broker sells the assets to you. It can sell it at either the same price as the actual market but with commission or a slightly higher price for their markup.
- Then, the broker immediately mirrors your trade and executes it to its liquidity provider. Essentially, it buys the assets from the LP.
Sample Scenario
Okay, let's look at this from a different perspective. Take a look at Louise's trading situation.
Louise noticed an upward trend in the EUR/USD market, so she decided to go long EUR/USD at 1.2000 with a standard lot (100,000 EUR/USD). This means that her broker now has a short position of 100,000 EUR/USD on the other side of the trade.
To manage the risk, the broker offloads the trade to an external counterparty, its liquidity provider. The broker opened a buy position of USD, mirroring Louise's order. This way, the broker offset the short position against Louise without routing her trade to the liquidity provider.
One moment, Louise's position gained a profit of $270. Traditionally, this means that her broker incurred $270 losses. But since Louise's broker offset the position, it earned the same profit (or higher, if with markup) from its position against the liquidity provider.
Technically, the broker avoided losses the moment Louise gained from her trade. Likewise, the broker will not gain profit from Louise's trade if her position incurs losses.
How Does A-Book Broker Make Money?
As you can notice in the previous example, Louise's broker does not profit when their position loses. So, how did the broker make money from their trade? Considering that the broker is running a business, it should make money regardless of the result of the trade to sustain it.
Well, A-book brokers' revenue stream mainly relies on the commission fee and position spread for each trade, not on the unprofitability of their clients.
1. Commission
If your A-Book broker has the same enter and exit prices, it most likely generates revenue through commission. A broker normally charges a commission depending on the trading size and volume.
Remember, brokers' commission structures vary. It can be charged per lot or as a percentage of the trading volume. Make sure you always read the terms of service to avoid surprises.
Pro tip: If you ever see a forex broker that offers a 0% commission fee, it's unlikely to be an A-Book broker.
2. Spread Markup
When A-Book brokers hedge or offset your trade to its liquidity provider, they often buy the asset a little lower and sell it a bit higher. Your broker has a better price against the LP to mark up your trade.
This concept mirrors the way retail sellers make profit. Assume you have a grocery store; your customers buy the products at their retail price. Meanwhile, you purchased the said product at a wholesale price, basically lower than the price you're selling.
In the following lessons, you'll explore the different brokers with different forex execution levels.
