Secrets Exposed: Fall of the multiple currency broker model
There is no doubt that an ever-increasing number of clients have come to realise that currency brokers typically offer far superior exchange rates and lower overall payment transfer fees when compared with the high-street banks. In addition, brokers tend to offer clients a variety of complimentary tools and services that are designed to help them manage their currency exposure and time their trade, which helps them save even more.
However, quite often the exchange rate initially offered to a new client by a currency broker will be extremely competitive to seduce them away from their current provider. This ‘honeymoon rate’ doesn’t usually last for long and the currency broker will seek to increase their profit margin by widening the spread on the exchange rate over time and at every opportunity. To explain this properly it is important to understand how a money transfer company makes money on your currency conversion.
Most currency brokers will claim that there is no charge to convert your currency using phrases such as ‘commission free’ and ‘zero fees’. However, what they don’t tell you is that they make their money on the difference between the exchange rate that they obtain in the market (often advertised in the media as the ‘interbank’ exchange rate) and the exchange rate that they offer you. Quite often this is not made clear and the difference between these rates can be quite large and change rather arbitrarily.
Some clients are savvy to the widening spread and honeymoon rate tactics employed by many brokers. To prevent this from happening, these clients will use multiple banks/brokers and shop around for the best exchange rate each time they have currency to transfer. Whilst this approach is understandable, opening an account with multiple brokers and checking the rate with each certainly takes some effort. Not to mention of course, that the rate moves constantly making any direct comparison between providers difficult, as this exercise can take several minutes to complete. Nevertheless, it is true that the spread a broker will charge is usually smaller when they know that they are in a competitive situation.
In reality however, most brokers tend to widen their spread the most when a client places a market order with them, such as a limit or stop loss order. By placing such an order, the client is giving the broker an instruction to buy or sell currency at a pre-agreed rate should that price level be reached. As a result, the client will usually only place a market order with one provider, as leaving the order with multiple providers may result in their order being filled with both companies and them having purchased more currency than they intended. This is not a good situation to be in.
Brokers know that a market order left with them effectively means that they are not in a competitive situation and will allow the spread that they charge on the trade to be wider than if the client had just called in for a quote. It is now up to the broker to decide when the client is ‘filled’ on their order. Because of the lack of competition on such orders, the broker will usually take this opportunity to widen their spread and effectively charge the client more for the trade. Some might say that as long as the client price is filled, then what difference does it make how much the broker makes on the trade? The answer comes down to missed opportunity. Some brokers may increase spreads on orders by as much as 50% meaning that the client has not been filled on their price and their order is not executed because of the brokers greed.
