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When to Trade Raw
With the exit of FXCM out of the US FX market, it looked like the last of the US raw price dealers was gone. Fortunately, Oanda stepped up to the plate and this week revealed that it will be rolling out raw pricing first for its FXtrade platform and then eventually for MT4. So I thought this is a perfect time to examine when traders should choose one or the other type of brokering service.
What is raw price dealing? That is simply the wholesale price feed from the Interbank market. In a dealing desk model, all retail FX brokers markup, the wholesale price feed the get from the big banks before they display it to their customers. So in the Interbank market, the EURUSD typically trades 0.1 pips wide -- a normal quote would be 1.06801 by 1.06802. Most retail dealing desk firms would quote that out as 1.06795 by 1.06809. Some might even quote 1.0679 by 1.0681.
The raw spread comes with obvious advantages. When the spread is only 0.1 pips wide versus 1.5 pips wide, it is a lot easier to get trades done. Limits get hit faster and more frequently. Stops are given more room and can sometimes even be avoided. But the raw spread trade comes with a catch. Every time you trade you have to pay commission. Typically the commission is about 1 pip round trip (half a pip to buy and half a pip to sell).
That may not sound like much, but it can quickly add up. When I traded with FXCM my monthly commissions were often larger than my profit. That’s ok when you are making money, but it can add up quickly to your costs of you are not. So we go back to the original question -- when should traders trade raw and when should they accept paying the full spread.
The answer as is the case with so many of these things is complicated and not necessarily intuitive. Generally, you would think that if you have a high-frequency strategy that requires exact execution and quick in and out tactics then trading on raw spreads would be the way to go. Not necessarily so. A high-frequency strategy is basically a massive commission generator. If you can make money on a high-frequency strategy with full spreads or even if you can break even -- the full spread broker may be a better way to go.
Let me explain why. When you pay full spread, you not only pay nothing in commissions, but you can actually -- in fact, you should by all means -- collect rebates from your broker. There are several very good IBs who will set up a rebate program for you. I work with the best in the business -- feel free to email me for info. In any case, a typical rebate is about 0.2 pip per trade. If you do 25 trades per day on NO LEVERAGE. In other words, if you have $10,000 account you trade 10,000 units per trade, then in 20 trading days, you will have earned 100 pips in rebate. That’s 1% per month or 12% per year on your account even if you fail to make one single pip.
On the other hand, if you have a strategy that trades 2-5 times per day with 10 to 20 pip targets, you are probably much better off with a raw spread strategy. That type of “in between” trading can really benefit from the raw spread difference. Let’s say you have a strategy that has a stop of -20 and a target of +15. If just one out of 20 trades flips from a loser to a winner (i.e. you avoid getting stopped on raw pricing and eventually make target or you make target on raw pricing and bank profit, but miss doing so on markup spreads then you essentially have a +35 point swing in your P/L (you make +15 and avoid losing -20) that more than makes up for the 20 pips of commission you would pay on your volume.
So trading raw versus markup is really a question of style as much as cost and every trader should consider his individual condition before making the move. Fortunately, it doesn’t have to be a binary decision. Most brokers let you have both accounts and that’s probably the best way to go.