A-book, B-book or golden mean - how brokers work
Forex is a kitchen and all brokers play against the client. Probably, every beginning trader has heard such phrase at least once, but today it has little in common with reality, because there are three types of dealers - A-book, B-book and mixed.
Before examining the specifics of brokers' work on https://tradersunion.com/ and looking for advantages in each of the listed models, let us briefly remember the history and peculiarities of the currency market, because this information is the key to understanding many processes and trends.
FOREX, as such, appeared spontaneously just after the Bretton Woods agreements were cancelled, when the USA refused to exchange dollars for gold in fixed proportions. At the same time, developed countries signed an agreement that provided for a wider range of fluctuations of exchange rates against USD.
So, while from the end of World War II until 1971 the United States dollar was pegged to gold, and all other currencies were exchanged into USD in fixed proportions, in the "new reality" the purchasing power of money was determined by the balance of supply and demand.
Initially, such operations were carried out only by large banks and financial institutions, focused on servicing corporate accounts and foreign trade operations. For example, if company A from the United States supplies British company B with corn, there is inevitably a need to exchange GBP to USD, which can be carried out by the following schemes:
The buyer will buy USD in the market and transfer it to the supplier's account;
The buyer will transfer GBP to the account of the supplier in the British branch, and the latter will exchange pounds into USD.
As you can see, in both cases, you can not do without FOREX, moreover, the free exchange rate became an additional tool to regulate the economy, because the value of exports/imports depends on the strength of the currency, in particular, the more expensive money in a particular country, the more profitable it is to import goods.
Then currency exchange became popular among ordinary citizens, who buy foreign currency for tourist trips or savings. As you can see, in all of these cases, FOREX performs strictly defined functions, i.e. it serves a specific sphere.
After a while it became apparent that it is possible to earn on currency rates' difference in the same way as on the stock market speculations. At first such services were rendered only to large clients, but in the mid 80's, retail Forex dealers entered the American market.
The scheme of work of the first dealing centers corresponded to the term "kitchen", because the new field was not practically regulated, clients' applications were not fed into the real market, and brokers were often blatantly cheating, i.e. they were just stealing money and drawing up fake reports.
Fortunately, those troubled times are long over and today retail FOREX in many countries is no more like the Wild West (where the most cunning and unscrupulous earn money), but on a normal trading platform, not inferior to the stock and commodity exchanges. But first things first.
The model of B-book brokers
If you ask any beginner what distinguishes a "kitchen" from a regular broker, many people would immediately remember the price manipulation, disconnections, the imposition of dubious consultants giving bad recommendations, aggressive calls to the personal phone, etc.
Undoubtedly similar features are typical for the most dubious dealers, but their main difference from the "ideal" (in general the ideal is found only in theory, that is why the word is put in quotes) company is that the clients' deals are not passed on to the third-party liquidity providers.
In other words, in a real Forex kitchen (the most authentic one, really) all deals get into the joint cauldron, from which a part of money is used to pay out profits to successful traders, and the rest "bank", remaining from the clients, is transferred to the main account of the firm and cashed out.
Thus, the more money clients lose, the more profit the owners of the "kitchen" make. The opposite is also true - the impressive percentage of profitable traders can put such a company on the verge of a cash gap. This is the B-book scheme.
As you can see, it is very similar to the work of an ordinary sweepstakes, so the organizers of this scheme often resort to dishonest tricks. Here are the main ones:
The broker draws nonexistent quotations, which triggers a stop-loss or a margin call;
Before the publication of important news the connection with the server loses, as a result of which the trader cannot delete the position opened earlier;
The client's funds are frozen under the pretext of anti-money laundering, after which technical support stops responding;
The company offers to credit a bonus, but in the process of trading it turns out that the entire loss belongs to the "bonus part" of the deposit, and therefore it must be worked off/compensated for by depositing personal funds;
The broker's B-Book manager imposes loss-making signals or offers to manage the funds, after which the client's funds start to melt away literally in front of his eyes.
We can enumerate such schemes for a long time, because dishonest companies have unlimited imagination (every year a new way of robbing people of their money appears), but even in all of the listed cases there is a resemblance to an underground casino.
A logical question arises - if a company only works according to the B-Book scheme, does it always resort to these tricks, or can it work honestly? Practice shows that sooner or later all such "offices" start disturbing their clients, because big win of one trader puts them on the verge of disappearance (there is no place to take money for remuneration payment).
Unfortunately, beginners very often fall into the net of unscrupulous brokers, although it is not so difficult to distinguish them from the normal companies. In particular, we recommend to pay attention to the following signs and behavioral patterns before opening an account:
The dealer's brand is unknown at all (not mentioned in reputable magazines);
The company does not have a license (preferably a license from the U.S., Britain, Cyprus and other jurisdictions that care about their reputation);
Managers are too pushy and push the phrases "catch the trend", "tomorrow will be too late", etc.;
Spreads and commissions are too small to be true (as a rule they are raised "from the ceiling" to attract customers);
The company's website is glitchy, it has unfilled sections and no contact information for feedback.
A-book brokerage model
The diametrical opposite of the B-book is the A-book scheme, which is used by reliable companies serving large clients. Briefly, its essence is the following - all orders are output on the interbank market, i.e. the broker acts as the intermediary, but not the counteragent.
This scheme has the following advantages for trader:
The company is not interested in manipulations, as it does not benefit from them;
If the client loses his account, his funds flow into the pocket of another trader/bank, not the Forex broker, so the latter is interested in keeping people in the market as long as possible, filling up their operations with the commission;
The previous point generates a whole industry, which employs professional analysts (not baiters as in the case of B-book) who give good forecasts;
All the A-book brokers have licenses and many of them automatically calculate taxes for the trader;
The equipment of such companies is constantly updated, which increases the speed of execution of orders.
On the other hand, the enumerated advantages are compensated by the absence of certain familiar trading conditions. First of all, real A-book brokers do not deal with small clients, i.e., in this case the minimum deposit of the client is usually $5-10 thousand.
Second, the trader will have to forget about high and free leverage. This peculiarity is related not only to legal restrictions, but to the specifics of financial market, because by providing a leverage a broker risks his own funds (while B-book company just draws additional numbers in the terminal).
Thirdly, the commissions at such intermediaries are often higher than at the "kitchens", because they are the broker's main income. To understand better the scale of the differences between A-book and B-book (in terms of profitability) let's consider a hypothetical example.
Let's suppose that 100 speculators (each one has a deposit of $10000) executed some operations on Forex. According to the results of the accounting period 20 traders have earned a total of $200 thousand, and the remaining 80 people have lost all their capital (this is the standard ratio for the financial markets).
As can be seen, the B-book company has received the basic income at the expense of the clients' losses, and the profit from the commissions was significantly lower. Hence a simple conclusion - it is more profitable for the owners of this broker to set low prices for their services, thus attracting new potential "sinkers".
With the broker working according to A-book scheme it is quite different, in particular, he does not receive income at all at the expense of the drained deposits, but his profit from commissions is a bit higher than that of his competitor. And from this amount they need to pay their employees' salaries, buy new equipment and software, pay for the services of liquidity providers, etc.
In general, the client has to choose one of two things - either he bears more transaction costs, but receives a guarantee that his money is safe, or he saves on commissions, but risks to be left without any money if the company decides to disappear in an unknown direction. In our opinion, the choice is obvious for serious traders.
And the last disadvantage - all payments with A-book are made strictly through the banks. At first glance, there is nothing special here, but this method of interaction often creates problems with currency control and tax authorities (even if the trader does not intend to violate the law).
As for the pros of A-book from the standpoint of the business owner, in this respect, this scheme is more stable, attractive to serious clients (with deposits over $1 million) and does not irritate the regulatory authorities. In general, all the pluses, if not take into account the high cost of advertising, since competition in the segment is very high.
Mixed model A-book and B-book
If to consider each of the listed schemes separately, we obtain two extremes - big non-trading risks and serious requirements to the deposit. Naturally, both variants will not suit a common trader, that is why brokers using the mixed model have firmly established themselves on the retail Forex.
It is as follows - the company has access to liquidity providers, but it puts either large orders or an aggregate position to the market, which creates risks for financial stability. Accordingly, small transactions within this scheme are executed on counter bids of other clients and do not go to the interbank. Recently, large brokers openly declare such an approach in their business model https://tradersunion.com/ .
Moreover, some firms, which positioned themselves as A-book for a long time, accidentally disclosed their cards during the EURCHF collapse. Recall that after the NBS decision the franc strengthened strongly in a moment, so some reputable European and American brokerage companies were forced to fix serious losses, which could not happen with the full withdrawal of all transactions on the liquidity providers.
In principle, if we do not take into account very extreme situations, such method of the business process management is profitable for both traders and brokers, in particular, if we consider it from the speculator's point of view, we can note the following features:
An ordinary trader (with a deposit up to $1000) must be soberly aware that his trades are too small to be placed in the market, so the mixed model gives him a chance to try trading;
Since the profit of a mixed broker turns out to be higher than that of a pure A-book, he can afford to soften the terms on commissions and spreads, which, again, benefits the speculator;
As a rule such companies insure accounts against negative balance, i.e. on abnormal surges they simply write off trader's debts while usual broker compensates such losses through court;
The client can use alternative methods of deposit/withdrawal along with a bank transfer;
No requotes in the accounts (i.e. the company is loyal to the execution of requests even if they remain in the "common boiler").
And as for the pluses for the broker, everything is obvious. Firstly, the profit increases, because it's no secret that most of the beginning speculators lose money due to the lack of experience and discipline problems, while the requests of the professionals (which create risks for the company) are placed on the market.
Secondly, by attracting small traders and thanks to the impressive marketing budgets this scheme allows to cover a wider audience (why the allowable costs of the brand are higher - see the previous paragraph).
And thirdly, the mixed model allows to get the license from the reliable regulator, as many jurisdictions prioritize the capital adequacy condition, as if there is money to cover the obligations we give you the green light. The brokers take advantage of it.
Short conclusions and recommendations.
Today we have tried to explain in simple and clear language what the A-book and B-book brokers are. If we eliminate all unnecessary terminology, their main difference is in the way of processing of clients' orders, in particular the former bring all operations to the interbank, while the latter act as a market maker for a trader, i.e. they can do to the price as they want.
In general, if the speculator has a serious capital the account should be opened in the A-book company because in this case the funds will be protected from the "playing against the client" and the trader will have access to a wide range of additional services (high-quality analytics, etc.).
If the speculative capital does not exceed $1000, it is reasonable to use the services of a company that uses a mixed model, i.e., it tries to maximize profits while maintaining the financial stability and reputation. Moreover, our experience shows that practically all "retail brokers" in one form or another work both under the A-book scheme and under the B-book.
And the last remark - never work with a pure B-book dealer, because he will still let you withdraw a small profit, and when the big sums are involved, the trader will not even be able to withdraw his own money, not to mention the earned interest.
The only question that remains is how do you know when the hunt for your client's funds has begun? Our observations show that after reaching the red line (when the trader has seriously increased the deposit), such companies begin to impose personal managers, analysts, super-beneficial signals, and other dubious services.
The question is, where were you when the trader just opened an account and so needed the services of "professionals"? Why did you show up when the speculator himself proved his professionalism? Why would he need you if he is doing fairly well on his own? My advice - once such an "attack" has begun, it is better to withdraw the money quickly, without waiting until the financial department receives an order to "freeze" the account under trumped-up pretexts.