Forex Brokers: Are They a Scam?

Adam Lemon

The retail Forex industry has a poor reputation in many circles. Is this justified? Read on to find out which are the most common Forex scams run by disreputable Forex brokers and other Forex service providers, how you can identify them, and how you can avoid them.

Is Forex Legit? Separating Fact from Fiction

Our world of nation-states has a genuine need for a marketplace facilitating the exchange of foreign currencies. This real marketplace is the largest market in the world, with over $4 trillion worth of currency exchanged every day, with most transactions involving the U.S. dollar. Some may question whether this market is “legitimate”. It is certainly real, and many of the participants have a commercial need to exchange currencies as part of their business activities. However, many and possibly most of the monies exchanged are performed as speculative operations by banks and other large financial institutions, which some argue are morally illegitimate.

“Forex” as we know it, though, is something a little different, which we might call “retail” Forex. Forex in this sense is not the real $4 trillion per day global market, but a retail industry which offers depositors the chance to bet on fluctuations in exchange rates. It is often compared, accurately, to off-track betting. When clients trade Forex with retail Forex brokers, they usually do not actually buy and sell in the real market – they are mostly market maker brokers. Most Forex brokers just quote exchange rates, take their clients’ bets, and hope that most of their clients lose – because they can pocket the net loss as operating profit. Data released by Forex brokers regulated within the European Union shows that typically more than 75% of clients lose money in any given month. However, this high loss rate is not due to broker dishonesty but is naturally part of the game of market speculation. Of course, many Forex brokers do take action to cover their risk, by netting out their clients’ open trades and duplicating that “position” at least partially in the real Forex market, so the story is a little more sophisticated than it first sounds. Many Forex brokers claim to operate a different model, such as ECN or STP, but it is likely that many of these brokers are in fact profiting somehow from their clients’ net losses and not only from the bid-ask spread and other execution or trading Forex fees. Frankly, this is probably something that financial regulators should be taking a closer look at.

The big question is whether the typical retail Forex broker as described in the previous paragraph is legitimate. It can be argued, in my opinion quite convincingly, that provided the broker offers a fair price, honors its bets, and pays out to winners while generally acting honestly – it is legitimate, as nobody is being treated dishonestly or cheated in any way. Morally, the broker can argue it is taking the risk of loss to profit, as nobody is forcing their clients to trade (or bet, if you prefer that term) – although the greater acceptance of problem gambling as a mental illness might call that into question.

If you accept my proposition, the next question you can ask is whether Forex brokers live up to this standard. Obviously, a broker that uses tricks to make its clients lose unfairly, or which simply refuses to pay out, is running a Forex scam. I will look at the various scams some brokers use to profit unfairly at the expense of their clients in the next sections of this article, but first I make the point that there are plenty of Forex brokers which do not. I will also examine some of the scams which are performed by players in the Forex industry who are not brokers. Once you understand these Forex scam tactics, you should be able to better spot the business which are using them and avoid accordingly if you are going to get into trading Forex.

Forex Broker Scams

By far the most common complaints about scams in Forex are against Forex brokers. Before I go through the major scams, I ask what is a scam, really? For example, if someone offers to sell you a can of coca cola for $10, are they scamming you? They are being honest about the product and the price. If you have access to a store which is selling the same drink at the usual much lower market price, and you know what the market price is, arguably you are not being scammed. You have the freedom to buy somewhere else. This logic could be applied to Forex brokers who charge excessive fees but are open about such rates. A true Forex scam involves some degree of deception. However, it is true that Forex brokers who charge excessively high fees usually go to some trouble to obscure it. If this is a scam, it is certainly the most common one conducted by Forex brokers against their clients. There are also a few other noteworthy types of broker scams.

The Point-Spread Scam

All brokers quote prices with a “spread”, or points, between the bid and ask (the prices at which clients can buy or sell). Forex brokers almost always have a gap between these prices, which is naturally a source of profit for the ones which are market makers, and this is seen as completely legitimate throughout all brokerage industries. Unfortunately, some Forex brokers either charge excessive spreads all the time, or suddenly dramatically widen the spread quoted temporarily. The latter is arguably the bigger scam as it is dishonest if it does not reflect market conditions, which sometimes justify abnormally wide spreads which are naturally caused by illiquid market conditions.

Stop Hunting

This is related to the point-spread scam. Most Forex traders use hard stop losses, and their Forex brokers can of course see where those stops are, which often cluster together at obvious levels. Imagine one day a broker’s software spots such a large order cluster and tells them that their clients will lose $50,000 – which the broker will pocket as profit – if the EUR/USD currency pair trades 5 pips lower than the current market price. Remember that the broker also controls the price quoted! The broker might be sorely tempted to widen the spread by suddenly quoting an ask price 5 pips lower for a split second, and then suddenly normalizing the spread. Only the most scammy brokers do this because it is so easy for a practiced eye to spot when it happens, but sometimes a broker may be able to use a news release or other spread-widening event as cover where the scam is much less clear cut. However, it is important to remember that sometimes natural market spreads do widen suddenly to take out clusters of stops in the real market, but if you see it happen repeatedly for no good reason, you are watching a scam broker in action.

Brokers take the risk of being arbitraged for a loss when they artificially widen spreads which can make this a dangerous scam to run. However, brokers might defend against this by rejecting trade entries at that point – but this is also easily spotted and highly suspicious, which brings us to the next Forex scam on my list.

Taking a Market Offline/Requotes

Most of the time short-term Forex price movement is impossible to predict, but there are moments where it can become much more likely to move in one direction than another. As most Forex brokers profit when their clients lose, so they lose when their clients profit, and at these times scam brokers might seek a way to stop their clients entering such a trade. The simplest way to do this is to just suspend trading in that market, which can also keep clients with open positions trapped in their trades with no way of getting out. Brokers when doing this will often use an excuse that they are forced to suspend trading due to market conditions or low liquidity at their liquidity partners.

As a rule, if you see a broker do this more than once, and other brokers are still offering relatively normal trading in the same asset, you are probably seeing a scam.

A similar Forex scam is the “requote”, when a trade entry or exit attempt is rejected by the broker. This is relatively uncommon today. Sometimes it can be caused by a slow internet connection. Brokers can reject trades when they are confident that the market price will quickly turn against the client.

Using Bonuses as a Trap

Forex brokers regulated outside the European Union can offer “bonuses”, typically when a new client first deposits funds. This sounds too good to be true and it usually is. The small print about the bonus usually explains that the bonus amount cannot be withdrawn until the client has made a specified number of trades. As most clients lose, the more they trade, the more they lose, so a bonus typically has the effect of making a client lose more quickly.

Excessive Overnight Fees

Almost every Forex broker pays or charges “swap” on any positions kept open over the New York close, known as the “rollover”, by a non-Islamic account. The exact charge or payment is theoretically based upon “tom-next” rates which are driven by the interest rate differentials between the two currencies comprising a Forex pair or cross. However, some brokers impose overnight fees which are charges on both long and short positions in the same currency, or which cannot be justified by the prevailing tom-next rates in the real Forex market. Many traders fail to notice these charges or accept them as a cost of doing business. It is possible that brokers run this Forex scam to erode the edge which can be gained by holding long-term positions in line with multi-month Forex trends.

Forex Trading Scams

So far, I have focused on Forex broker scams. Below are some of the more common scams run by other industry players.

The Signal-Seller Scam

Some individuals or companies sell Forex “signals”, which are usually complete trade recommendations, for example buy EUR/USD today if it reaches 1.1700 and sell it at 1.1800 with a stop loss at 1.1650. These can be very popular among new or unprofitable traders as they assume that paying for trade recommendations is a way to find good trades without having to work it out themselves. Although there are some genuine signal providers, the vast majority just churn out “signals” of dubious quality. Some providers even show proven track records on their website linked to verified trade explorers, which can be faked – this can be a scam within a scam.

The worst signal scammers are the ones which are not even trying to provide quality signals. The best way to spot a signal scammer is to ask whether they are providing a very high frequency of signals, or even better, just access a free trial for two weeks if possible and check the track record of the signals. If the signals cause heavy losses, steer clear.

“Educational” Scams

You can find websites, some of which are very convincing, promising to teach you how to trade Forex in return for a fee. These can be genuine operations, but the Forex education industry attracts people who provide almost no value despite sometimes considerable fees.

"Robot" Scamming in Today’s Market

Automated Forex trading is possible at most Forex brokers, especially those offering the MetaTrader 4 trading platform. The trading is done by rule-based algorithmic programs called “robots” which are attached to the trading platform. Robots execute trades while the client needs to do nothing.

There is nothing wrong with using robots to execute automated trading if a realistic approach is taken. The problem is that most robots on offer quickly fail and produce large losses because they are over-optimized. These robots are often sold with outrageous claims as get rich quick schemes, usually attached to marketing claiming they can turn a few hundred dollars into a million within a few months of trading. Even worse, if you ask to see the logic behind the algo to assess the robot, the robot vendor will typically tell you it is a “proprietary black box” which cannot be revealed.

The hard truth is that very simple robots based upon trend following or mean reversion strategies might well be useful for some traders, but these can often be found for free or at a low cost. The “holy grail” robot which will increase your account by 1,000% or more within a year simply does not exist, so there is no reason why you should pay for one.

Is Forex a Pyramid Scheme?

A “pyramid scheme” is an investment or sales scam where the “return” paid to investors is taken from the monies received as fresh investments from new subscribers. Probably the most famous example in recent times was the pyramid scheme run by Bernie Madoff. The retail Forex industry is not a pyramid scheme, but there have been some cases of Forex money managers operating in the same way as Bernie Madoff did. Be extremely careful before handing your money over to anyone else to manage and perform strong due diligence including the verified track record of historical returns.

How to Report a Forex Scammer

If you see what you have strong belief to be a scam by either a Forex broker or someone else in the industry, you could try to do something about it. If you have lost money through such a scam at a Forex broker, you should first try complaining to the broker, then the regulator, and you might get redress. This is one reason why it is important to use a regulated Forex broker, especially one regulated by a major top tier financial center.

If these avenues are fruitless, or if the scam is perpetrated by a non-broker entity, you can report a Forex scammer to us at Daily Forex.

Final Thoughts

Many people think the entire retail Forex industry is a scam. This is not true, but the industry does attract scammers and there are many questionable Forex brokers seeking your deposit, which you would not be wise to give them. Many also feel that it is impossible to make any money trading Forex as the system is rigged against the trader. It is not easy to make a profit trading Forex and a large majority of people who try fail. However, if you use a reputable and honest broker, it is possible to make a profit and to withdraw it successfully.

You can find a reputable Forex broker by looking at those which have secured regulation in a major industry center. You should also read reputable broker reviews, which can protect you by sharing the facts of what the broker is offering, which are often not easy to find by reading a broker’s website or advertising.

FAQs

How do Forex scams work?

Forex scams by brokers are usually based upon manipulation of the price feed or misleading terms and conditions which disguise poo trading conditions.

Is Forex trading for real?

Forex trading is for real, but at least 75% of Forex traders lose money.

Why is Forex a bad idea?

Forex trading is not easy and requires hard work and emotional discipline before you have even a chance to be profitable. Even if you do become profitable, you are very unlikely to make a huge profit, so it may be a waste of time for most people.

Adam Lemon

Adam Lemon began his role at DailyForex in 2013 when he was brought in as an in-house Chief Analyst. Adam trades Forex, stocks and other instruments in his own account. Adam believes that it is very possible for retail traders/investors to secure a positive return over time provided they limit their risks, follow trends, and persevere through short-term losing streaks – provided only reputable brokerages are used. He has previously worked within financial markets over a 12-year period, including 6 years with Merrill Lynch.
Learn more from Adam in his free lessons at FX Academy

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