We have basically two types of brokers: Market Makers and brokers that pass the trades to liquidity providers. Before we get to the difference between ECN and STP it is good to summarize what a Market Maker (MM) broker is.
Market Maker is a broker that is creating market for the traders. What does it mean for you as a trader? Simply said, MM broker trades against you. If you win a trade, MM broker loose and vice versa. So in theory MM broker is happy with you as long as you are loosing money, because all your loss is broker’s profit. Some of MM brokers also don’t allow automated trading using robots.
ECN (Electronic Communication Network)
A true ECN broker is actually true broker that lets you access directly the huge inter-bank market with big amount of liquidity providers. You are trading the real prices displayed on the market.
Who you are trading against? You are trading against everyone having an interest in the market, like banks, financial institutions, other brokers, etc. More liquidity providers the ECN broker has, better trading experience you can get – lower spreads, faster execution speed, minimal slippage, etc.
One of the disadvantages is that order fills are not guaranteed (mainly if you are trading with pending orders during some economic news release). For example, if you place a pending buy order at higher price level and there is a quick market price movement due to some economical event, the order might be filled at higher price that the pending order was placed which can make potential difference between winning a loosing trade. But also note that this can happen in any type of broker.
How ECN broker makes money? ECN broker usually provides you very small spread but you pay commission for every trade. The broker doesn’t care if you loose or win the trade because he always gets money from that commission. Actually we should say that ECN broker likes you more if you are winning because then there is a higher change you will trade more and he will get more money on commissions.
STP (Straight Through Processing)
STP broker passes your trades to liquidity providers for an execution. It can be one or more brokers but the liquidity providers might be routed to the market in such a way that your STP broker basically becomes a MM broker.
What can happen if the broker has both types of the account (MM as well as STP)? Broker may split the traders to different categories based on their behavior (or type of trading) and if you have a potential to be a good trader who wins the trades more than loose you might trade trough STP servers, while loosing traders trade trough market makers servers.
How STP broker makes money? STP broker makes money on spread or some other charges that client pays for opening the trade.
Pros and cons
ECN:
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PROS
- Transparent
- Low spreads
- Fast executions
- Any trading style allowed
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CONS
- Higher commissions
STP:
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PROS
- Lower fees
-
CONS
- Non-transparent
- Slower executions
Which broker should you choose?
This depends on your trading strategy and skills. First of all let me say this: If you consider to trade using robots (automated expert advisors) always choose true ECN broker. You will get better execution speeds and less chance to have slippage.
ECN broker is also a good choice for professional traders.
If you are beginner and if you trade with small lot sizes and if you don’t use any automated trading robots, you can choose STP broker (or MM) that is solid and licensed.
Why we always read negative reviews on MM brokers? Logically the most of beginning traders choose the MM brokers because of smaller fees and welcome bonuses that MM brokers offer. Beginners also want to get rich fast and they think that they can make million from hundred snapping a finger. This is usually not how it works in real trading and that is why we read and hear about how the broker is going against the client, etc.
Fully regulated broker (even MM broker) is under the control and he can not go against you significantly. Of course he can delay executions, enlarge spreads during economical events, slightly adjust prices but the reason of failure is most of the time the trader. Solid MM brokers should inform you about significant trading condition changes in advance.