How to Start a Forex Brokerage Firm

The expansion of investment segments in order to increase profits tenfold in comparison with bank deposits prompts financiers and ordinary depositors to search for other ways of income growth. It starts with buying currencies, securities and ends with buying gold with energy resources, cryptocurrencies with subsequent sale. Forex broker is one such intermediary - a company facilitating access to trading platforms, guaranteeing leverage and analytical dashboards, with market maker or NDD models, STP option or ECN network.

Thoughtful platform functions are in demand with secure protocols and transparent implementation on spreads with commissions. Forex business is based on many theoretical and practical axioms, the implementation of which makes brokerage balanced and sustainable. See the detailed business guide about them.

A-Book, B-Book and hybrid brokerage business models

A hybrid format is used to launch a Forex broker in order to realize a successful multi-functional brokerage model. A-Book concept assumes that the broker works with clients who have large assets. Such traders choose an “elephant” position by optimal leverage size, risk not exceeding 40%, fixing stop-losses at relatively safe levels. The lower the liquidity and share of successful trades, the higher the % of losses, the more likely the trader will enter the B-Book category.

B-Book is characterized by the fact that clients are offered financial leverage of 1:100 and above, but do not show their orders in the real market due to high risk. Transactions do not take place on external markets, but inside the platform, so brokers as counterparties profit from traders' losses, not from their income. Insurance restrictions in B-Book are practically non-existent, but the loss of $10-50 of many poor traders (note that they are offered leverage of 0.001 and more) brings income to the Forex trading company itself. However, low commissions and profitable spreads are used here, which attracts those who have small sums.

Brokerage setup hybrid option is the most complex, as it requires assessing trader's profile, transaction history and results, liquidity and risk appetite. Given that transparency in the A-brokerage option and mutual trust are higher than in the B version, it is difficult, although possible, to find a balance in the hybrid format.

Risk management and complex margin calculation

Each Forex platform is partially based on a risk management system. Depending on what assets are involved, the formula for margin and leverage sizes differ. One thing is standard CFDs and currency pairs, another is energy resources, gold and cryptocurrencies with tokens. The forward and reverse quotes determine the size of the margin, the dynamics of the cross rate in the absence of $ in the quote directly affects the probability of margin call and stop-out. Although there are high risks here, they cannot be compared with binary options, where users can lose all their funds in one moment.

Investing in ETF shares, the investor gets protection by participating in a diversified portfolio or with a certain set of functions. For ETFs without leverage the profit increase will be equal to % of quote growth, with leverage - several times more. Forex indexes specification depends on the instrument, as well as the margin:

The more features and bandwidth the platform has, the higher its price. If you want to make a forex broker website with simple functions, the cost of development starts from $40 thousand, reaching $80-100 thousand. Therefore, to launch a forex broker, you should carefully study the options and choose the right ones, which will be a prerequisite for testing and deploying MVP.

Leverage and its effect

Forex leverage is a financial multiplier with the possibility of both multiples increase and decrease of profit. The broker, providing borrowed funds, estimates what the income will be in case of a rise or fall in the stock price. Leverage should be treated carefully: a number of resources recommend that beginner traders should take no more than x10. As an example: if a trader has his own funds in the amount of $1000, leverage x5 will allow him to dispose of borrowed assets in the amount of $5000. It is impossible to trade on shorts without leverage.

Leverage is distinguished from a loan by the fact that the broker provides it without interest, being satisfied with the commission. You can manage without it, limiting yourself to spot trading, but in this case the financial result will be less. To assess the profitability of leverage, the leverage effect formula (EL) is used:

For this reason, leverage is a lever with two ends: if you make an unsuccessful investment with it, you can lose several times more money than if you use your own deposit. When using broker's services, it is necessary to monitor the share rate constantly, so that when the rate drops, it does not close part of positions to repay the loan. The higher the risk of a fall in the rate, the greater the share of finances should be invested by the investor. If we talk about the multiplier 1 to 1, it means that the trader trades on his own capital, without attracting the broker's loan.

Indicators and example of trading on cryptocurrency TON

To make it easier for a trader to understand the essence and principle of leverage, it is necessary to show visually how the calculation takes place, add a calculator so that for each step the coefficients and the amount depending on the minimum allowable lot and deposit can be seen. For example, the rate of TON fluctuates between $6.9-7.3 (for a week volatility of $6.5-7.7) and the trader sees that he can on the purchase of 1000 units of cryptocurrency to profit up to $1.2 on one or $1200 on all for 3-5 days.

For analytics, hundreds of indicators are used. Traditional “line” and “step”, “mountain” with “candlestick”, histogram and scatter chart visualize the course with different depiction of spread and direction. Refining indicators offer advanced breakout analytics with bounces. This list includes:

• Heiken Ashi to visualize the trend of the bar;
• RangeBar, which determines the time of candle formation over a small interval, up to 48 hours;
• OHLC, demonstrating volatility on high and open trends;
• Kagi for analyzing reversals according to timeframes;
• Renko, the bricks of which indicate the trend by color and change of direction.

Having used indicators, when a trader has received a clear increase in trend with the assumption of a decrease, he calculates how much broker support he can count on. Suppose leverage 1:12 is used (ratio 0.083, deposit $700), leverage equals $8400, margin $605.9 (= 7.3 x 1000 x 0.083). In this scheme, the balance of the trader's deposit is equal to $94.1, in case the rate does not change and it is necessary to extend the transaction, transferring from short to long format.

Margin Call and Stop Out levels

A trader looks at the initial and minimum margin, % risk for stocks and currency pairs, minerals, oil and gas before going to a broker. The average risk rate varies between 10-40%, but there are those who resort to high-risk positions of up to 80%. The minimum margin is half of the initial margin.

The first call before Stop Out is sending a Margin Call message about the need to replenish equity. In case of CL there are limitations: when the Stop Out threshold is reached (Stop Out varies between 40-85%) all positions are forcibly closed by the broker and the trader's account is reset to zero. Approximate formula of stop out:

The greater the leverage, the lower the margin. But 1:1000 offers should not be responded to, as these operations belong to high-risk ones. If the trader made a wrong bet on short positions and the level of exchange rate fluctuations showed a downward trend, the broker automatically issues a Margin Call and then, if the client did not take any action (selling shares or currencies, other lots), Stop Out is activated - and the capital is drained. When choosing a broker, one should evaluate the levels of Margin Call and Stop Out. If these indicators are lower than 50/70 (the first figure - Margin Call, the second - Stop Out, in %), then he can close the order without significant reasons and take the trader's money. Such brokers are not chosen by experienced traders.

About the rollover rate

Consider that the Forex market is designed more for short positions. Rollover rate is charged for carrying positions to the next day. Rollover rate is relatively small, but it can still reach significant values when buying assets for a large amount and rollover for a long period of time.

Suppose a trader decides to buy 1 ETH and then sell it, assuming that the bearish situation is coming to an end and a bullish reversal is possible. However, the exchange rate has decreased even more and it is better to postpone the sale to another day. The fee for this will be a tiny fraction of $ - $0.0001488.

Thus, the greater the amount of investment, the higher the prolongation rate. For example, if a trader invests not $3.3 thousand, but $3.3 million, a day of prolongation will cost him $0.15, and a quarter - $13.5. In case a broker does the rollover, the cost increases, as he adds the cost of work to the operation.

Nuances of margin and leverage calculation

If a trader with experience has a certain amount of money in his account, he does not use it all at once. Usually 2.5-5% of the capital volume is used. When the margin is equal to the amount of money on the account, then Margin Call and Stop Out are instantly activated and the trader does not even have time to understand why the deal is immediately closed. Margin is an inviolable sum, which is blocked by the broker at the time of order opening. Margin is calculated according to the formula:

For example, a broker provides $2900 of leverage for a $100 trader. That is, only 3.45% or $3.45 of the trader's capital will be blocked [formula 1]. In the case when the leverage for this amount is $400, the amount of blocked funds will increase to $25 [formula 2].

So, tell your trader about it to take this nuance into account and diversify risks by investing in several projects. An experienced trader closes 100-300 orders per day.

Longs in CFD contracts: focus on militarized companies

CFD contract is the most common form of transaction in Forex. The profit depends on the sell and buy spread between the positions. Stocks can also be used, but commodities benefit more. Longs work better in situations where a company expands and updates production, increasing output. Apple and Amazon, Microsoft and Pfizer used to be on this list, now investors are eyeing stocks of militarized companies like:

• Lockheed Martin, with a rate hike from $300 to $500;
• L3Harris Technologies, with momentum from $71-$255;
• Northrop Grumman ($170 to $550);
• Leidos Holdings ($25-$145);
• General Dynamics (up $122 to $301);
• RTX (up $50 to $107).

It is better to invest in stocks of militarized producers before the period when the world is intensifying armaments against the background of expanding proxy wars. Evaluation of quotations in real time and in perspective for a year or several years with a development trend is a must for attracting investors. Regular reviews with forecasts confirmed by statistical and mathematical models increase the demand for the investment platform with many Forex brokers.

Long selling position is always more attractive than bearish strategy and in this case there is often no charge for postponement to another day. Automatic closing of a deal at the stop-loss point at the fall level of 10-20% of the initial one is a mandatory feature in the broker's functionality. If permanent rate fluctuations reach Cv 30-50 % and higher, the limit can be changed. However, in a proven company, the share price usually drops by 10% or less per day or month.

The risky appeal of shorts

It helps to attract more traders with illustrative examples. Let's assume the following situation on shorts: a trader borrows 100 shares from a broker, expecting that their price will fall from $120 to $118. He sells them at $120 and then, when the price drops to $118 or lower, buys them again and returns them to the broker. Gross profit is $200, with a broker's fee and a risk rate of 50-60% at $170-180. Point out to the trader the presence of overnight - if it is involved, overnight commissions will have to be paid.

The example of GE Aerospace company shows how the rate reaches $165 at the peak and falls to $160 and even lower within a day. If a trader takes a broker's leverage of 1 to 5 on his $165 and buys 6 shares for $990, then a day later the gross profit on shorts will be $30. In case, on the other hand, when the forecasts do not come true and the rate goes up, the trader will make a loss on the amount by which the stock will increase. That is why short positions are constantly set at a high risk level.

Zero risk axiom and defense features

Let's note a curious rule-axiom: in order for Forex trading to be profitable, it is necessary to close at least 40% of contracts with a profit, where $200 of income will be $100 of loss. Then the probability of losing capital will be no more than 14%. To reach zero or near-zero risk level (0-1%), a trader should close at least half of his trades with the ratio of $2500 profit to $1000. It is better to train on a demo account when you have no experience, and only then, when you have “gotten your hand in”, to start working on a real account.

You should take into account what minimum lot is allowed there before launching a Forex broker by integrating it into a certain exchange. Sometimes the conditions are such that it is impossible to make a bet less than 0.01 lot, the unit of which is equal to $100 thousand and more (LiteFinance is an example). And even if an investor wants to make 3-5 bets in the metatrader format (remember that the optimal number is equal to a hundred), it will be necessary to enter thousands of dollars or use a multiplier with leverage within the limits of 1:10-1:1000.

Due to this fact, different scenarios with demo accounts should be built into the platform to realize the Forex broker function under specific conditions. It would be better to set leverage no more than 1:3-5 for beginners and 1:10 for those whose profit is fixed at the level of 2 to 1. In a situation when a trader uses more than 5% of the capital when opening an order or transaction, we clarify whether he is really ready to do it and after approval to perform the action. The same applies to contract conditions with a risk of more than 40%.

Scoring, dimensions of leverage, rent VS development

The brokerage platform owner should implement scoring technologies in order to evaluate a trader's integrity depending on the amount of deposit and riskiness of actions. For example, let's assume that a trader participates in trades with risk up to 20-30%, the amount of his assets is $1000 or more - then we allow leverage of 1:1000. A beginning trader is better limited by the coefficient 0.02, and those who often risk (60% and above) and have % of unsuccessful trades more than half - 0.01.

As an entrepreneur just entering the Forex market or deciding to try out how much profit he will make, he can rent a platform for a quarter or six months before deciding whether to get involved in this business. The rental price reaches $2-10 thousand per month, depending on the complexity and functionality of the Forex broker. Many stock trading development companies offer to make their own solution from scratch. If you compare this with the cost of developing a platform for your own rules, which ranges from $40-80 thousand, it is clear that long-term lease is not profitable.

A trader should be constantly warned about the fact that an increase in leverage to a ratio of 1:1000 threatens to close the order by stop-out in case of a trend reversal. So it makes sense to invest in opposite positions - both on the growth of the rate and on the decline - for training and hedging risks based on correlation. However, this technique may not guarantee big profits.

Study with examples and demos

It is a good idea if the platform has a blog with examples of profitable trades, where different situations and scenarios are considered. The trader is well explained that the correction and the fall of the rate are different things: the loss is covered by doubling the CL, based on the principle of Martingale, but in such a way that it does not interrupt the safe limits according to the rules of risk management (5% of the deposit). A lot of traders choose to trade without leverage, ¼ of them prefer to bet up to 0.1 (own assets multiplied by 10), ⅕ of the total number can reach the leverage level of 0.01. The choice of 0.001 is more emotional, rarely coordinated with mathematical and statistical calculations.

It is a rule that leverage is not higher than 0.2-0.5 on cryptocurrency trading platforms, which is due to the rules of investing most of the personal capital and to avoid a “bubble”. Thus, it is better for beginners to start trading on a demo account first - by studying indicators and trends, estimating volatility and the number of points of movement of the cryptocurrency rate using a calculator. Resort to scalping and piping strategies at the start does not cost, because for a successful game you need leverage of 1:100 and higher. The overwhelming majority of traders choose long-term strategies.

Pips and pipettes in risk management

Decreasing or ascending trend, pips between pairs, volatility in % - these are simplified Forex calculator parameters that show how the trend changed over a specific period of time (day, by day of the week, one or 2-10 weeks). Calculating pips is easy: subtract the rate of quotes on currency pairs for the desired time - from a larger number to a smaller one - and the 4th digit from the beginning will show the share of fluctuations. For more clarification use pips equal to 0.1 pips (5th digit).

The price of a pip is linked to $ and to find out the price of one, dividing the expected profit by the number of pips. A formula is used to calculate the cost of one pip on your own:

For minimizing the loss, a stop loss in pips is placed at the boundaries of 10-50 pips, taking into account the opening and setting price. This kind of automation prevents the loss of deposit before passing the critical point of 5% according to the norms of risk management. Having followed such rules, the trader will feel safe and confident in the fact that the loss will not exceed 1% of the assets. If the work is going in shorts, stop-loss is set at 100 points and more.

That is why a careful study of the subtleties of the Forex business, integration of indicators and techniques, evaluation of traders, balance between risks and profits is a viability and harmony guarantee for an adaptive brokerage model. It is impossible to realize a long-lasting and sustainable Forex platform with growing credibility and volumes within even fragile financial ecosystems without planning, control and communication.

Merehead team is developing and leasing Forex brokerage platforms according to the parameters of permanent and stochastic data and trend analysis. Check out the services provided by the team and examples of startups and contact the manager if you are interested in FinTech projects.