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If you were to ask any institutional broker / Liquidity Provider (Prime of Prime), most, if not all, would answer by saying “one”. And that “one” would be themselves. The reason given, with some justification, is that the LP can see the business of the retail broker holistically, gaining a good view of the overall business which would allow them to manage the relationship with more clarity.&nbsp;&nbsp;However, having one sole Liquidity Provider is neither a practical, nor a wise solution. The main reason against this is technical. Every broker should have aback-up price source should their primary pricing source fail. Not only will clients suffer should the primary price/execution source fail, but it could land a broker in trouble with regulators. In Japan the Japanese Financial Services Agency JFSA take instances of pricing/execution down-time very seriously, leading to post-event reports and submissions and plans and commitments for such an event to not happen again, with fines even possible.&nbsp;&nbsp;A distinction needs to be made between A-book brokers (who offset all their trade tickets to their Liquidity Provider) and B-book brokers who internalise the vast majority of their business, offsetting sometimes only 5% (or less) of their business to their Liquidity Provider. To established Liquidity Providers who are hungry for business, it can feel that they are being left to stand outside the window in the cold looking in and watching the Retail Broker feast on all the volume their clients are generating, only occasionally being thrown the scraps that fall off the table in the direction of the LP.&nbsp;&nbsp;Nevertheless, at minimum, and all else being equal (assuming comparable pricing capabilities) a B-book broker should still have a secondary back up LP should the first fail. The worst thing that can happen for a Retail Broker facing thousands of clients is for their price feed to go down completely and for their trades to be unable to execute trades.&nbsp;It is not much fun as an LP being the plan-B safety net should the primary provider fail for whatever reason. However, at least there is a relationship of sorts between the Retail Broker and the Liquidity Provider, which these days, in such a competitive market, can be seen as a privilege.&nbsp;The practical way to add an LP in an aggregator as a back-up price feed, is to widen their price (using the aggregators tools) so that in any pricing ladder their prices, being the widest, are spread to such an extent that they will be at the bottom of any stack, but there as a back up should the primary Liquidity Provider fail for whatever reason. Should the primary provider fail, then the impact on the end client is simply wider prices rather than no prices at all. If an LP knows from the outset that their price feed is a back-up plan, they will most likely charge a monthly fee for the API.&nbsp;&nbsp;Aggregating already aggregated FX liquidity from 2 or more Prime of Prime Liquidity Providers is not a sustainable business practise if the retail broker is sending tickets back to the LP in larger ticket sizes. (Larger sizes is a catch-all but generally would be a single order of anything over $1 million notional, (or 10 lots).) Ultimately, the liquidity is generally being sourced from the same market making bank/non-bank Liquidity Providers and being shown downstream as coming from Prime of Prime 1 or Prime of Prime 2, but behind them both can be many of the same names. If one of those names get hit twice on the same order by different prime of primes servicing the same Retail Broker, it doesn’t take long for a phone call from the bank to the Prime of Prime to get an understanding of what is going on.&nbsp;&nbsp;In some cases, Prime of Primes will take an approach that they will remove any names from their pricing stack that are duplicates of what the broker is already seeing, resulting in the Retail broker having 2 Liquidity Provider sending distinct liquidity down 2 separate APIs. This can take some management and some open dialogue between all parties concerned (LP1, LP2 and the Retail Broker). The retail broker has to have confirmation as to who their primary LP is using to source their liquidity and then go to the secondary LP and ask them to only use different LPs in their aggregated feed to them.&nbsp;&nbsp;Some Liquidity Providers have strengths in some specific areas which would necessitate having a 3rd or even more LP. Some LPs have a broader range of instruments than their primary LP. For example NDFs are only offered by a very restricted list of names. This can be a door opener for an LP in terms of getting their pricing into a retail broker but the rest of their offering could be a duplicate of what the Retail Broker is already receiving. In this case the NDF capable Prime of Prime may be used just for that part of the Retail Broker’s business, and will miss out on the main high volume G7 flow. But at least there is a relationship, which could be called upon should the primary relationship fail for whatever reason.&nbsp;If a retail broker is of a size where they have the capital to have direct relationships with a Tier-1 bank Prime Broker, that broker is able to speak to primary market makers directly (bank and non-bank). They will have direct pricing from a selection of banks who support their business. One sizeable Cyprus-based retail broker I used to look after as a client pushed through on average $4-5 billion per day which went direct, via an aggregator, to their collection of banks. They had 10 names at any one time, and what was clear that 80% of their flow went to the top 3 or 4 names. Each month they reviewed the bottom 2 or 3 names who were seeing minimal volume, and adding minimal value to the aggregated stack. Onboarding with another LP was relatively straightforward, so the bottom 2 or 3 names were always in contention.&nbsp;&nbsp;However, what also became clear was that there is a law of diminishing returns when there are more than 3 or 4 market making Liquidity Providers. The more that the total volume of a retail broker is split amongst a larger group of Liquidity Providers, the less each market maker received in terms of flow and the less they were able to gauge the value of it and the nature of the flow. Therefore, their ability to service the broker starts to diminish.&nbsp;This is a question I have to consider frequently. When a retail broker comes to LiquidityFinder looking for new liquidity partners, they usually have several conversations with prospective LPs and end up settling on one or maybe 2 to replace who they currently have.&nbsp;Anecdotally, I can say that in the main, most retail brokers who come to LiquidityFinder for assistance with finding additional or new sources of Liquidity have 2 main relationships that they lean on for their liquidity and are looking to flip one, or both out, to get a better deal on commissions and spreads.&nbsp;

Please feel free to contribute your ideas or ask any questions in the thread below (set up an account on our site if you do not already have one). I will do my best to answer as fully as possible.

Read and discuss general advice about liquidity matters here.

How many FX liquidity providers should a retail broker have?

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