Many brokers wonder how they earn their money from ordinary traders;
The basic principles of brokerage and economics will help them distinguish brokers from scams because forex trading has become increasingly popular over the years, with more and more people trying their hand at it.
They provide trading platforms to earn money and some tools and resources for traders to execute their trades.
Here is the list of common ways for the broker to earn money in forex:
Currency pair spreads:
The most common way forex brokers make money is through the spread. There is only a difference between their buy and sell prices.
- The bid price is the price at which the broker wants to buy a currency pair and at which the broker is always ready to sell the currency pair.
- The difference in these prices is the spread, usually measured in pips, the smallest unit of measurement in forex trading.
- The largest source of income for the Forex brokers is spread, which is the difference between the Bid and Ask rates.
Before passing the quotes to traders, a broker can access lower spreads and add markup to the spaces. This way, a company can earn the money traders lose on the added distance.
Spreads on small positions would be too low to be a significant income source for brokers. So, many brokers offer high leverage. Because
- It is an excellent tool for multiplying your trading volume.
- It increases your profits and losses.
Forex brokers may charge inactivity fees for traders who don’t trade for a specific period.
Overnight swap spreads:
Brokers pay the overnight swaps to the trader if the difference between the rate in a currency pair is positive in the trader’s position and get paid from the trader’s account if that difference is negative. But these payments are not symmetrical and biassed, so a Forex broker would always get an advantage.
- Forex trading is a 24-hour market, and traders can hold their positions overnight. However, maintaining a position overnight incurs a cost,
- The broker has to borrow the currency being traded to execute the trade.
The overnight fee is the cost of borrowing the money.
Payment processing commission:
This is a transparent way for brokers to earn money; they know exactly how much they pay for each trade. However,
- some traders may prefer brokers that offer no commissions, especially for frequent traders.
- Forex brokers rarely charge a commission per trade and often advertise that as a feature. However, some brokers charge payment processing fees deducted only when you deposit.
- And withdraw money is usually tiny and fixed in currency units, not percentage points.
Such commissions are too small to form a significant part of the broker’s profit, but they are enough to compensate at least a part of the broker’s expenses.
Trading against the trader:
The most despised and unethical way a Forex broker can make money is to trade against its customers. And that is the most profitable way, too.
- Avoid brokers that earn when you lose. If the spreads are too low, the leverage is insignificant.
- The overnight swaps are fair, and there are no commissions (for payment processing and trading).
The broker is undoubtedly trading against you to make money.
Brokers use inactivity fees to incentivize traders to remain active and to cover the costs associated with the upkeep of dormant accounts.
- These fees are a part of the revenue model for brokers and discourage the proliferation of inactive accounts.
- In forex trading, an inactivity fee is a charge brokers impose on traders’ accounts that remain unused for a specified period.
This fee compensates the broker for maintaining the performance of their platform despite its dormancy.
Forex brokers generate revenue through the spread, commissions, overnight, and inactivity fees. Traders need to understand how their brokers make money so they can make informed decisions about their trading. Traders should choose brokers that offer transparent pricing and competitive fees. Forex trading is a high-risk activity, and traders should only trade with money they can afford to lose.