The dangers of retail FX – Trapped by liquidity

This was a short term intra-day trade I took just an tad over an hour before the Reserve Bank of New Zealand rate statement and official cash rate announcement. The pair tanked this afternoon at 5 P.M when RBNZ announced a dovish stand to weaken the Kiwi even more with a near-zero inflation. 

You can read more about it WBP Online – RBNZ Preview: Dovish Stance to Weaken Kiwi. I’m not much of a fundamentalist, but I do keep track of the overall sentiments just to ensure my technical setups are not trading against the fundamental data. In today’s case, or this case if you are reading it in the future, the technicals did align with the fundamentals. Nevertheless, I was extremely lucky to be on the right side and have a rather small position open.

NZDJPY Loss of Liquidity

My entry was based on the technical chart setup. I was going for the second wave of selling as I saw the price stalled after the initial move away from the resistance line. If you look at the chart, it looks like I closed in an area where there was no price action. My close was slightly above the candle signaling the massive slippage during news trading. This brings us to the first problem with trading in a retail environment.

1. Slippage, especially during fundamental releases

You will see this in just about every forum. There will be at least one guy vouching for market makers and one guy vouching for ECN brokers. Like all enthusiasts, these guys will throw terms around like ECN, NDD, STP, B-Book, A-Book, Hybrid Booking, DD, and so on. I never bothered to learn the terms because they simply do not matter! Why? There is no way for you to know if a broker is actually honoring its straight-through processing (STP) feature or if there really is a no-dealing-desk (NDD). On a retail level, you won’t know unless you work for the broker and can see their back-end. Regulations have yet to catch up in the retail foreign exchange business so we are trading in a environment that lacks the transparency.

2. Market makers may be better than ECN brokers

Brokers that use Electronic Communications Network (ECN) provide a price feed and execute your trades only when it has a liquidity provider to pass it through. It is all part of a network. In the instance like my NZD trade, everyone was looking to sell and nobody was looking to buy. If you look at it in terms of a book or depth of market ladder, there will be no one to take the other side of the trade. I actually watched this trade unravel in real time and clicking the tiny ‘x’ to close trade button just didn’t work. I simply could not close the trade till 3 minutes later. Another example is the Swiss National Bank ConfoederatioHhelvetica Franc (CHF) unpegging against the Euro. Several brokers went out of business. ECN brokers were unable to refund their clients while market makers were. Since market makers “made” the markets, it makes reversing trades a lot easier. Market makers will engage in such practice because when the client loses, the broker profits. The broker can simply reverse the trade so no profit or loss every took place. On the other hand, an ECN broker has the obligations to pay its liquidity providers. Market makers have become a bad word almost because of the practices they engage in such as stop loss hunting, requotes, etc. Whether the broker intentionally engage in these practices, there is no way of knowing unless you work for the broker’s backend.

I suffered from a loss of liquidity in this instance as I was unable to close my trade. This would not have happened if I used a market maker such as Oanda. However, that does not mean market makers are straight up better. You still suffer the consequences of wider spreads.


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