If you have been reading books and educational material on trading, you may have come across Dr. Alexander Elder’s book “The New Trading For a Living”. In a captivating second part of the book, he talks about mass psychology and poses the question “What is the market?” Uncovering the identity of the currency market means attempting to look who is really behind the virtual reality of our trading day. Our contact with the market is primarily through the web or other media-we look at prices, charts and indicators, we read the news, we watch business channels. But the market is not just a giant pool of money from which we must claim our cut. As Dr. Elder explains, “The market is a huge crowd of people. Each member of the crowd tries to take money from others by outsmarting them. The market is a uniquely harsh environment because everyone is against you, and you are against everyone.”
This is really what the market is-other people and other people’s money. You may be thinking that retail trading has minimal impact on market moves and that it is not people who make the market but banks and other financial institutions. That’s partly true; retail trading accounts very little for what’s going on but even banks are run by people, none of them is on automatic pilot. The difference is that those people are likely to be more qualified than you and me in doing what they do, that they may have access to better information and certainly more money. The idea that psychology and mass psychology have a weak influence on the market cannot really explain market bubbles and crashes sufficiently.
So where is the profit money coming from and where is the losing money going?
In Forex, this is a tricky question. It is always somebody else’s money but who is this somebody else?
If you are trading with a market maker, that means a company who makes the market by setting both the Bid and Ask prices, then the money is coming and going back to their pool.
If you are trading with a TRUE Electronic Communication Network (ECN) broker, then the money is coming and going back to the market, that means its coming to you from other market participants who lose it, and when you lose, it’s going to those market participants who win it.
Majority of brokers use a hybrid model. To differentiate the way the trades are handled for each client, brokers use the terms “A book” and “B book”. If your trades are kept in house and not sent out to the real market, this is B booking and is typically used by market makers. If your trades are immediately sent to the market or liquidity provider, this is A booking and is typically used by ECN/STP brokers.
The reason that most big players in the Forex industry use a hybrid model is to manage their own risk. As soon as a B book trading account is starting to exhibit characteristics that would fit A book better(for example has made considerable profit, lowered leverage and keeps trading big winning positions consistently) then it gets switched. Alternatively, a trader may have started as an A book and then get switched to B book. This could happen when traders are risking large amounts of their capital in trades and make losses, when they use high leverage and in general when they engage in high risk, unsuccessful trading.
Apart from charging you spread, swap and commission for ECN, the broker’s aim is to make money from your bad trading and avoid paying from their own money your good trading.
Although it may sound a bit uninviting, the most important thing here is that if you do trade well, you will make money.
So, your aim is to trade well, knowing that in order to do so, you firstly have to master yourself and then everything else.