Risk control issues on foreign exchange platforms refer to risk management matters specific to foreign exchange trading.Due to the unique nature of forex trading, forex exchanges often need to implement specific risk management measures to ensure the security of transactions. These measures typically include credit checks on traders, enforcement of trading rules, and restrictions on tradable instruments. In practice, forex exchanges also need to employ technical tools to monitor trading activity and implement contingency measures to address emergencies.
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This article lists the five most common risk management issues faced by forex brokers and will use simple, easy-to-understand examples and scenarios to explain some of the theoretical concepts involved in risk management.
1. Quote Delays
With on-exchange pricing, forex brokers cannot route orders to the market and lack real-time risk monitoring, leaving them without any protective mechanisms during extreme market conditions. Quote delays are a classic vulnerability resulting from this situation.For example, the data sources provided by some data providers—and used by all forex brokers currently on the market—cannot possibly offer clients MT4 quotes with perfectly identical quote speeds and price levels.This leads some traders to use algorithmic trading to monitor multiple platforms—or even access raw data directly from data providers—to identify which forex broker’s quotes are lagging, thereby exploiting the time difference for risk-free arbitrage. So, how should forex brokers choose a quote system?
2. On-Exchange and Off-Exchange Price Manipulation
This has been the most challenging loophole in the past two years and a major headache for all brokers. So-called “on- and off-exchange price manipulation” refers to a practice where certain individuals open an on-exchange futures account,and during trading sessions with very low volume and no liquidity, “push” up the prices of exchange-traded assets. This, in turn, affects the quotes of over-the-counter (OTC) forex brokers, allowing them to execute large orders using the higher leverage available in the OTC market to achieve risk-free arbitrage.
3. Inability to Place Sell Orders
In the past, some brokers operating in the direct-to-market business would first accept orders and then route them. Specifically, when a client placed an order on MT4, the broker would first accept the order and then send it to the international market. However, this process can be very difficult to manage when extreme situations arise.For example, a broker might accept an order only to discover that there is no matching price in the market to execute it. Of course, the broker could execute the order at a less favorable price, but doing so might result in a loss rather than earning a commission. The inability to find a matching execution price was a major problem that all brokers faced in previous years.
4. Risk Analysis
Many forex brokers have a complete MT4 system, complete with management tools and a back-end, but lack a detailed statistical report that tells them exactly how much risk they are facing. However, quantifying risk is actually very difficult because each broker deals with a vast number of trading instruments—including forex pairs, gold, silver, and more—totaling between sixty and one hundred.From a trading perspective, the focus is typically on overall profit and loss rather than that of individual clients. Therefore, after all client accounts have been reconciled, the resulting open positions represent the current risk exposure.To calculate this exposure, statistics must be compiled based on different models and products; more experienced brokers may even break it down to the level of individual currencies.
5. Extreme Market Conditions
While forex brokers can generally manage their risks fairly well under normal circumstances, what all brokers fear most are extreme market conditions. Take the Swiss franc “black swan” event four years ago: even a powerhouse like Alpari UK faced bankruptcy and losses under a direct-market access (DMA) model when confronted with such extreme market conditions.
Have the five common risk management issues listed above affected your forex platform? Faced with a wide variety of situations and risks, what strategies should brokers adopt, and how should they respond? How can they protect themselves and their end clients?
