Let’s take a look at the major hierarchy being followed in the ‘Prime Brokerage Margin Based Model’, where the first position is taken by PRIME of PRIME.
To explain this system, it should be known that the proper regulation of forex market is done by splitting it into Market Makers (LPs) and the Market Takers (Brokerages).
Market Makers are the ones which manage the amount of volume exchanged for a specified instrument at a given time, which is termed as ‘Liquidity’. This liquidity is Tier 1 Prime Brokers (PB). This highest level in the brokerage industry is generally taken by the major FX banks like Citi, CHF, LMAX, Deutsche Bank etc.
To set up an account with Tier 1 PBs, following standard requisites are kept under consideration:
- Millions of liquid assets must be available (not including the clients’ deposits).
- Notarized documents shall be submitted, to identify the company owners.
- Source of the generation of liquid assets and its explanation
- Trade history for 3- years and more.
- A license to be shown by PP, which claims that the company is regulated or not. For instance, regulation by FCA, SECA etc.
After meeting these requirements, the client of tier 1 PB, should be prepared with the following:
- The registration process takes at most 6 months.
- Frequent visits of the employees of legal department of Prime Brokerage, to verify the information mentioned in the documents provided.
- Terms of the commission charged by PB.
- The brokerage company will be trade using FIX API.
After you have opened an account and start trading, if the risk analysis of PB finds out your trading strategy or leverage to be harmful, then PB can bring your leverage down to 1:2 and can also close your account, without considering the open positions.
The next level is Tier 2 of the brokerage system- ‘Prime of Prime’.
Here the brokerage is registered and has an account with Tier 1 PB. The Prime of Prime provides the services so obtained from its PBs to the other participants of the markets, which includes- FX funds, Retail FX brokerages and many other institutions. PP is helping to take forward the Forex business because:
- It serves as a bridge between the retail and institutional Forex players.
- Provides an access to the liquidity
- Access to latest technology under a single umbrella.
- High leverage than Tier 1 Prime Brokerages
- Using industry standard FIX API to integrate various platforms into one feed.
However, the account opening format with PPs is also highly standardised, with High deposit requirements.
In the tier 3 level, we have ‘FX Brokerage’, which is an easiest venue to look for trading.
Most of the Forex Brokerages, takes the services from Prime of Prime. Brokerages get the access to liquidity from PPs. Then they use 100% STP model and try to hedge potions of the flows in a hybrid business models (by using A and B books).
These FX brokerages can provide its services to various market participants-fund managers, retail investors, white labels etc.
The biggest advantage of FX brokerage is that the entry requirements are minimum and flexible as the investors can open an account with them with a minimum deposit and high leverage (sometimes upto 1000:1). As these brokerage firms are charged by the LPs and Prime of Primes, the commission charged by them includes the cost incurred by them.
In certain cases, when FX brokerage are large and has high capital worth, they can secure a relationship with Tier 1 Prime Brokerages, so as to get more transparent source of liquidity.
The 3 tiers are important for the growth of the FX industry. But along with this many ‘Quasi Prime of Primes have started coming up. They are termed as “Retail Non-bank market makers’. These market makers mainly provide profit sharing and various programs to attract the institutions and FX brokerages around.