As a forex broker, in addition to the profits generated by client trades, you must also deal with risk exposure that changes every second. With every trade—even before it’s completed—the risk exposure associated with the underlying asset shifts. For some new forex brokers,these individual trades are as annoying as the red dots on WeChat Moments—they feel the urge to hedge each one immediately. However, this is actually a very irrational approach; as brokers grow larger, the losses resulting from this practice become increasingly evident.
Smart brokers understand from the very beginning the importance of aggregating orders before hedging foreign exchange risk, for three key reasons.
Reason one: it’s time-consuming and labor-intensive.
Whether forex brokers use forex option portfolios for hedging or simply engage in LP hedging, real-time hedging is unrealistic because it is extremely time-consuming and labor-intensive. Needless to say,as each hedge requires recalculating the delta; even with automated computer calculations, it is unlikely to keep pace with the speed of price fluctuations in the underlying instruments;
and with simple LP hedging, communicating with liquidity providers for every single trade also incurs significant time costs. Therefore, objectively speaking, it is simply impractical to hedge each trade individually without aggregating orders.
The second reason is cost savings.
Another major reason for order aggregation is cost savings. Take the simplest example of LP hedging: if a forex broker has two trades in a day—one being a long position of 30,000 units,and the other a short position of 20,000 units, if the forex broker does not aggregate orders and instead hedges each trade separately with an LP, the liquidity provider will charge a spread on every unit of that instrument traded by the broker;
However, if the forex broker aggregates the orders themselves or uses a forex trading platform system capable of automatically aggregating orders, the 50,000-unit trade can be internally hedged into a single long position of just 10,000 units,and if hedged with an LP, the broker would only need to pay the spread fees for the 10,000 long units.
As the volume of trades increases, this difference in spread costs becomes increasingly significant. Therefore, as forex brokers continue to grow and expand, order aggregation can help save even more in spread costs.
The third reason is that foreign exchange hedging involves minimum standard lot sizes.
Whether it’s hedging with foreign exchange options, forward contracts, or simple LP hedging, these hedging methods all use the minimum standard lot size.Especially for small and medium-sized forex brokers, it is quite common for a single trade to fall short of the minimum lot size required for forex hedging. Therefore, if a forex broker needs to hedge its risks, it must first aggregate orders to meet the minimum hedging requirements.
Therefore, when it comes to hedging foreign exchange risks, order aggregation is essential from both an objective and a subjective perspective.
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