While the first lesson introduced you to the forex market's global nature, this lesson takes you deeper into its unique structure and the diverse players who drive its activity. Understanding the relationships between these participants and how they interact provides crucial insight into market movements and trading opportunities.

The OTC Structure: Beyond Decentralization

As we established in Lesson 1, forex operates as a decentralized, over-the-counter (OTC) market. This structure offers distinct advantages but also creates unique challenges:

One major benefit is market stability—unlike centralized exchanges that could potentially shut down due to technical issues or regulations, the forex market's distributed nature ensures continuous operation throughout the trading week.

However, this OTC structure also results in lower transparency compared to centralized exchanges. Traders cannot see comprehensive market depth or exact trading volume, as these details remain private within each liquidity provider's system.

Broker Models: Your Gateway to the Market

As a retail trader, you'll access forex through brokers that operate under two primary business models:

A-Book Brokers (ECN/STP)

• Pass client orders directly to liquidity providers
• Make money primarily through commissions or markups
• No conflict of interest with clients' profitability
• May experience slippage during news events due to market liquidity
• Typically preferred by experienced traders

B-Book Brokers (Market Makers)

• Process orders in-house, acting as counterparty to trades
• Make money when clients lose (generally through spreads)
• May offer more stable pricing during volatile markets
• Often provide instant execution without slippage
• Subject to regulatory standards to prevent manipulation

A third, hybrid model also exists where brokers dynamically route some orders to the market (A-Book) while internalizing others (B-Book), typically based on client profitability or trading patterns.

How can you identify your broker's model? One practical test is to observe execution during major news events—A-Book brokers typically experience slippage as they access real market liquidity, while B-Book brokers often provide instant execution regardless of market conditions.

Market Participants: A Complex Ecosystem

The forex market brings together institutions and individuals with varying objectives, creating a complex ecosystem where different participants drive market activity.

Central Banks

Central banks implement monetary policy and manage national currency reserves. Their statements, policy decisions, and direct market interventions can trigger significant market movements.

Unlike profit-driven participants, central banks focus on economic stability and policy objectives. Their interventions, while infrequent, often signal important economic shifts that reshape market dynamics across multiple timeframes.

The Interbank Market

At the core of forex trading lies the interbank market—a network of major commercial and investment banks that trade directly with each other. These institutions (including Deutsche Bank, JPMorgan, Citi, HSBC, and others) form the primary liquidity pool for the entire forex market.

The interbank market handles transactions not only for the banks' proprietary trading desks but also for their clients, including corporations, funds, and other financial institutions. The bid-ask spreads set in this market become the foundation for retail pricing.

Investment Companies and Hedge Funds

These institutional investors manage large pools of capital and use forex markets in multiple ways. Unlike banks, their primary motivation is often return on investment, whether through direct currency speculation or hedging other investment positions.

Their size allows them to influence market prices, especially in less liquid currency pairs or during periods of lower market participation. Their strategies often focus on medium to long-term economic trends rather than short-term price fluctuations.

Corporations and Commercial Companies

Multinational businesses participate in forex primarily for practical rather than speculative purposes. A company like Toyota, with manufacturing in Japan and sales in the United States, must convert USD revenue back to JPY, creating natural market demand.

This commercial activity provides consistent transaction flow that helps maintain market liquidity. While individual corporate transactions may not move markets significantly, collective corporate activity creates baseline demand for currency conversion.

Retail Traders

Individual traders access the market through retail brokers, representing approximately 2-3% of total forex volume. Despite this relatively small percentage, retail trading continues to grow in popularity due to increasing market accessibility.

The retail segment includes diverse participants—from casual traders making occasional transactions to professional individual traders managing significant capital. Their trading approaches span from technical analysis and news trading to algorithmic systems.

How These Participants Interact

Understanding market structure means recognizing how these participants interact and influence each other:

Central banks set monetary policy that affects interest rates, which in turn influences investment flows managed by funds and banks. These investment decisions create currency demand that impacts exchange rates, which then affect corporate currency conversion costs. Finally, retail traders observe and react to the resulting price movements, sometimes amplifying short-term trends.

This interaction creates a market where different participants operate on different timeframes—from central banks' multi-year policy horizons to retail traders' intraday positions—creating opportunities across various trading approaches.

Key Takeaways

• The OTC structure of forex provides stability but less transparency than centralized exchanges
• Retail traders access the market through A-Book (ECN/STP), B-Book (Market Maker), or hybrid brokers
• Major participants include central banks, commercial banks, investment funds, corporations, and retail traders
• Each participant type operates with different motivations and timeframes
• Understanding who drives market movements helps inform effective trading decisions