Forex Liquidity Providers (Aggregators): Understanding Their Role in the Market

Who are the Forex liquidity providers (aggregators)?

It is necessary to understand what liquidity is in order to understand who the liquidity provider is. In short, it is the ability to quickly buy/sell an asset (commodity, currency) at the market price. This is good liquidity. If there is no such an opportunity - it is poor liquidity. The smaller the price difference (spread and tight order book) and the more trades are made per unit of time, the better the liquidity and vice versa.

Liquidity provider - a legal entity that provides more favorable terms of exchange/trade because of the larger supply and demand volumes. It is like a large wholesale supplier of goods. Without the liquidity provider, an ordinary Forex broker would not be able to satisfy all demands of its clients. After all, for each client's purchase, it is necessary to find a seller on the opposite side and vice versa and to achieve such ideal conditions when the buyer and the seller meet on the deal with the right volume at the right price at a certain moment is rather difficult, unless the broker is a huge bank and has liquidity reserves. But, as a rule, most Forex brokers are intermediaries between suppliers and clients, so you can only deal with a liquidity provider.

Basically, all liquidity providers are divided into two tiers: Tier 1 and Tier 2.

Tier 1 are large providers who interact with each other in an ECN network.

ECN (Electronic Communication Network) it's a huge electronic communication network that connects the largest liquidity providers. Tier 1 providers include huge international banks such as Morgan Stanley, Bank of America, Goldman Sachs, J.P. Morgan, Barclays Capital Bank, Citibank, Deutsche Bank, Nomura, and others. Large providers also include international financial exchanges for trading futures, options, and other financial instruments. These include London International Financial Futures Exchange, CME Group (Chicago Mercantile Exchange), CBOE (Chicago Board Options Exchange), ICE (Intercontinental Exchange), European Options Exchange, Deutsche Börse, Singapore International Monetary Exchange, and others. Large hedge funds, mutual funds, and investment companies also trade on the ECN network.

The majority of Forex brokers (>90%) cannot access the liquidity of Tier 1 and specified exchanges simply because they (suppliers) work only with big volumes. Therefore, there are smaller liquidity providers of Tier 2 level who have access to the liquidity of these banks (one or several) or, better yet, to the ECN networks and exchanges themselves. When a Forex broker has direct access to such a small Tier 2 liquidity provider, he is called an STP broker.

Straight Through Processing (STP) translates as straight-through transaction processing. It is a method of outputting clients' orders directly to the liquidity provider without any intervention.

When a Forex broker has a direct connection to a large Tier 1 liquidity provider (a big bank) or to the pool of several smaller Tier 2 liquidity providers (there are some), he is called a DMA-broker (Direct Market Access).

When a Forex broker has direct access to the pool of liquidity of large providers of Tier-1, and this is ECN or interbank, such brokers are called ECN brokers.

There are very few real ECN Forex brokers on the market, and the minimum entry in such brokers is around 10-25 thousand dollars. Anything below 10k is 99%, not an ECN. In most cases, it will be an STP. No one will let you in with a hundred bucks on the "Interbank," and this has to be accepted as a fact. So it makes no sense for regular retail traders to think about a real ECN as long as the deposit is at least 10k. However, Tier 2 liquidity providers will readily provide liquidity in the range of tens or even hundreds of thousands of dollars if you need it.

It is important to understand that the aggregation process is automatic and very fast due to modern software. That is why the term aggregators of liquidity are the software that allows providing necessary bids at the best prices collected from different liquidity providers.

In case there is no suitable counterparty at the moment for the current volume, the deal will be executed at the nearest possible price, and your order will perform "slippage." But the process of sending and processing the order itself will happen so quickly that you will not feel any difference between the deal with the broker's client or the deal with the liquidity provider.

So price "slippage" is a sign of insufficient liquidity at the moment. And this is one of the factors of the broker's liquidity providers' estimation. But you cannot check this indicator during the release of important economic events. At this time, a great number of market participants withdraw their orders from the order book, thereby greatly reducing liquidity. This is the reason why volatility sharply increases during the news (there is little liquidity at the nearest prices, and the price goes to look for it higher/lower), and "strong" slippages and spread widening occur.

Have a good trade.

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