The following commentary comes from Michael Markarian, Managing Partner at Core Liquidity Markets PTY LTD.
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If you work in retail forex it is most likely that recently you have been approached by a Prime of Prime provider offering liquidity and other services offered by these “boutique brokers.” The prime of prime providers have fulfilled a great need to provide a conduit to bank liquidity where this is not possible for many brokers. Gone are the days where every broker would need to setup a prime brokerage account with one of the major banks like Citibank or UBS. Then they would need to work with an aggregator like Currenex or Integral. That broker would also need to establish a credit relationship with each and every liquidity provider that they connect to.
The financial requirements are big even for some of the larger brokers out there. Just to establish a Prime Brokerage account usually runs in the $10’s of millions to qualify. That broker will also need to have a significant capital position to be able to establish credit relationships with these banks. Another issue that faces brokers is the time it takes to get setup with all of these large banks.
Several years ago some brokers were established to facilitate this need and make things easier for retail forex brokers that were in need to offset risk. As the retail forex market matures and many brokers develop their client base this became a necessity. Regulatory requirements and too much market exposure are two of the main reasons the Prime of Prime solutions became a necessity. The Prime of Prime Broker usually offers their services only to other retail forex brokers so they do not compete with those same brokers they service.
It seems like many brokers are now becoming a Prime of Prime broker. Some brokers have worked in conjunction with “Hedge Funds” that are involved in the broker and are also providing liquidity to the broker as well. Offering liquidity can be a very profitable proposition but retail forex brokers have become more discerning regarding the order flow they send to the Prime of Prime. Very few retail brokers are sending 100% of their order flow and in many cases the Prime of Prime is getting the “toxic” or the “sharp flow.”
The smaller and mid-sized Prime of Prime Brokers that are usually regulated may not have a large capital positions, of which would be of great concern to the retail forex broker. Prime of Prime forex brokers offer a very important service to the forex space. Only the market will tell if there are too many out there and if consolidation is on the horizon.