Starting a forex brokerage: choosing the business model

Every forex brokerage runs on one of three models, and the choice shapes its revenue, its risk, its capital requirement and the way liquidity providers and regulators treat it. The industry calls them the A-book, the B-book and the hybrid. Choose deliberately: changing model later means changing licence conditions, technology and often the liquidity agreement.

The spread, the commission and the swap

Whatever the model, a broker earns from three sources. The spread is the difference between the buying and the selling price the client sees, measured in pips; if the liquidity provider quotes a spread of 0.8 pips and the broker shows 1.8, the broker keeps one pip of every trade. A commission is a fixed charge per lot, common on accounts that show the raw spread. The swap is the overnight interest the client pays or receives for holding a leveraged position, and brokers set it with a markup.

In our experience, what a broker can charge depends on the market: a few pips in developing markets where competition is thin, one or two pips in competitive markets, and a commission of a few dollars a lot on raw-spread accounts.

A-book: straight-through processing

A straight-through-processing (STP) broker passes every client order to its liquidity provider automatically, through a bridge, without a dealer touching it. The broker never takes a position against the client. Its revenue is the spread markup and the commission; its risk is low, because a client's profit is the liquidity provider's loss, not the broker's.

• Revenue: spread markup and commission on every trade, whether the client wins or loses.
• Risk: low. The broker's exposure is credit and operational, not market.
• Capital: regulators treat an agency broker as the lighter case: in the EU the €150,000 tier when it holds client money, in the UK £150,000.
• Needs: a liquidity agreement, a bridge or aggregator, and enough volume for the spread to pay the bills.

B-book: the dealing desk

A dealing-desk broker takes the other side of its clients' trades. Orders stay in house; a client's loss is the broker's profit and a client's profit is the broker's loss. Most retail clients lose over time, which is why the model is profitable, and why it is also the riskiest: a run of winning clients, or one large one, costs the broker real money.

• Revenue: the spread and the commission, plus client losses.
• Risk: high, and it has to be managed by a dealer or a risk engine every hour the market is open.
• Capital: regulators treat dealing on own account as the top tier: €750,000 in the EU, £750,000 in the UK, and A$1,000,000 of net tangible assets in Australia.
• Needs: risk-management software, exposure limits per client and per instrument, and a hedging line for when exposure grows.

Hybrid: both, by client

Most established brokers run a hybrid. A risk engine sorts clients by behaviour: consistently profitable clients and large tickets are passed to the liquidity provider (A-booked), while the rest stay in house (B-booked). The broker keeps most of the dealing-desk revenue with less of its risk.

• Revenue: spread, commission and the losses of B-booked clients.
• Risk: medium, and only as good as the rules that sort the clients.
• Capital: the dealing-desk tier, because the broker still deals on its own account.
• Needs: everything the other two need, plus the risk engine that moves clients between books.

How to choose

1. Start from the capital you can commit. The dealing-desk tiers are five times the agency tiers in the EU and the UK, before the capital the business itself needs.
2. Then from the clients. Professional and high-volume clients want raw spreads and fast execution, which favours the A-book; retail markets with small tickets favour a hybrid.
3. Then from the people. A dealing desk needs a dealer or a risk team awake while the market is open. If you cannot staff it, pass the flow through.
4. Then from the regulator. Some regulators license the agency model only (Labuan's money-broking licence prohibits acting as principal); others set the capital by model.

A broker is not a trading website. The model you choose decides how much capital the regulator asks for, how your liquidity provider prices you and how banks read your risk.

What comes next

Part 3 covers the technology each model needs: the platform, the bridge, the client area, the CRM and the partner system. The capital figures above are the regulators' own; the forex licence page lists each one with its source and the date we last checked it.