Over the past few years the traditional FX Prime Broker industry has been thinning out, creating a demand for the types of services they provided. The loss of the institutional big bank Prime Brokerage services has occurred due to credit risk, small profit margin, risk aversion and new regulation. This reaction by those larger prime brokers has been clearing the way for specialized FX Prime of Prime (PoP) firms to gain market share. A Prime of Prime brokerage is a one stop shop for retail brokerages, hedge funds, money managers and wholesale traders to access top tiered global bank liquidity, cutting edge technology, cost effective rollover rates and clearing services.
The FX industry has seen many new names enter the Prime of Prime sector. However, they may or may not actually perform actual Prime of Prime service. A sure way to verify if you are truly working with a PoP is to ask the following 4 questions:
1. Who is the top tiered Prime Brokerage being used by the PoP? Also, you will want to ask if the PoP has a secondary top tiered prime brokerage?The firm should respond with a large recognizable bank name that clears all their trades and is connected to all other big bank names.
2. Which regulatory license(s) does the PoP hold?The PoP should be able to provide the name of a regulatory agency with highly regarded regulatory standards and guidelines which is respected throughout the FX community. (USA, UK, Australia, NZ). Also, if the ability to obtain a Straight Through Processing (STP) license by the regulators is possible, then the PoP should have this as it adds an additional level of assurance that the broker will not be taking the opposite side of your trades, eliminating any conflict of interest in that regard. If that particular license is not issued by the regulator, then ensure the PoP holds a license from a well-respected regulated country.
3. Does the PoP have post trade transparency?The PoP brokerage should be transparent in regards to who they are working with and be willing to provide the details of execution venue, the time of execution and fill rates.
4. Are your funds safe with the PoP?
Not only should the PoP brokerage have segregated funds account in which they hold client funds, they should also be able to offer full custody accounts with a large top tiered bank.
If the firm provides answers or services that are different than those above, you should be aware that you may NOT be dealing with a true Prime of Prime brokerage. Take the steps necessary to verify that you have a legitimate PoP relationship. By doing so, you can avoid falling into any of the following:
- Aggregated Margin Account – why deposit money with every individual bank or LP? A true Prime of Prime already has many connections through their Prime Broker. You can save a significant amount of time, money and work.
- Poor Regulation – if your PoP is not licensed with a highly respected regulatory authority you may have no assurances that your PoP is operating according to generally accepted industry guidelines. In addition, there may be no real recourse should you have a complaint against the PoP.
- Dealing Desks (B Books) – if it turns out that your PoP is taking the other side of your trades and therefore has a vested interest in you losing your money by dealing against you, then they may have ability to:
- manipulate the spreads
- withhold or deny withdrawals when your account is positive
- or in a “worst case" scenario, potentially become insolvent when market events happen
- Margin Deposit Protection - If your PoP holds their customer funds in an unknown bank or less than reputable bank, you are probably taking a risk that your funds will remain intact. Also, if the PoP cannot offer you a completely segregated custody bank account held in your name then it could be safe to assume that they may not have cultivated the best banking relationships and your money may be at risk if the brokerage fails.