ECN vs. Market Maker

Electronic communication networks (ECNs) and market makers support trading in financial markets. These facilitators are different in the way they operate. Each trading system has its own features and benefits. Traders must match their expertise, trading strategy and financial goals when choosing an ECN vs. a market maker. 

Novice traders may find market makers more accessible and easier to use. Experienced market participants may prefer ECN transparency and market depth. Which one is for you? Benzinga looks at the details.  

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What is an Electronic Communication Network (ECN)?

An ECN is a computerized financial system or communication network used for the electronic trade of financial instruments. It is a virtual marketplace inviting buyers and sellers to connect directly and exchange financial assets. No intermediaries — like brokers or dealers — intercede.

The system operates through a network of computer servers that match buy and sell orders in real time. ECNs give traders access to a larger liquidity pool, as participants from across the globe participate in trading activity.

Pros of an Electronic Communication Network

ECNs offer traders many advantages.

• Tighter spreads: ECNs are typically less expensive than traditional stock exchanges. Traders need no intermediaries, and ECNs charge lower fees and commissions.
• Faster execution: ECN brokers provide near-instant transactions. The platform automatically matches buy and sell orders in real time.
• Increased transparency: When it comes to market information, ECNs are transparent. All market participants can see real-time pricing and order flow so they can make informed trading decisions. 
• Round-the-clock trade: 24/7 operations mean that you can trade after hours.

Cons of an Electronic Communication Network

ECNs also have several shortcomings.

• Complex pricing: ECN pricing often involves several fee structures and tiered pricing.  
• Fixed commissions: ECNs often charge hefty commissions to cover the costs of running the network
• Limited access: ECNs may require higher account minimums or access fees, limiting access to brokers and institutional traders. Most don’t offer micro-lots, so traders must open larger positions.

What is a Market Maker?

A market maker acts as an intermediary, buying and selling financial instruments. Market makers offer market participants a set of assets with which to trade. They publish buy and sell quotes, trading the assets in vast numbers. These intermediaries earn profit by retaining the spread, the difference between the bid and ask prices. 

Market-making activities reduce bid-ask spreads and increase trade volumes. They may create conflicts of interest if they take positions against the clients’ interests to maximize profits. This has, in the past, led to concerns about market manipulation and unfair practices. Regulatory bodies have established rules and guidelines for market makers to prevent unfair trade. Market makers must comply and disclose their trading activities, showing that they are fair and transparent.

Pros of Market Makers

Market makers are beneficial for both traders and securities markets.

• Liquidity: Market makers are liquidity providers, ensuring that there are buyers and sellers on the market.
• Tighter spreads: Market makers narrow the bid-ask spread by providing buy and sell quotes. The result is lower trading costs.
• Market efficiency: Market makers enable trade by providing a place for buyers and sellers to meet.
• Price stability: Market makers ensure a consistent stream of financial assets.
• Market monitoring: Market makers track market conditions and adjust quotes and trading activities to keep the market stable and efficient.

Cons of Market Makers

There are also some distinct disadvantages to using money makers.

• Conflicts of interest: Market makers have the potential for conflicts of interest if they take positions to maximize their profits against client interests.
• Market manipulation: Market makers can manipulate the market by influencing the price of a security through their trading activities.
• Limited competition: Market makers can limit competition by controlling the supply of an asset.
• Information advantages: Market makers may have an information advantage over other investors because they can access more data on market conditions and trading activities.
• Dependence on market makers: Investors may become overly dependent on market makers for liquidity and may suffer from reduced liquidity if the market maker decides to reduce their trading activities.

Comparing ECN vs. Market Makers

There are some key differences between ECNs and Market Makers

• Role: ECNs eliminate the need for intermediaries, connecting buyers and sellers directly. Market makers are intermediaries that buy and sell securities on their own accounts, providing liquidity to the market.
• Prices: ECN pricing is transparent as all orders are visible, with the platform displaying the best bid and ask prices. Market makers set their bid-ask spreads, competing against each other for clients.
• Execution times: Expect fast execution times on ECNs. Orders are automatically matched in real time. Market makers may take longer to execute orders, as they must take positions and manage the risk.
• Liquidity: ECNs provide access to a large pool of liquidity, as all participants view and trade against the platform’s best bid and ask prices. Market makers also provide liquidity, but it may be limited to the financial assets on offer.
• Conflicts of interest: ECNs have no conflicts of interest, as they don’t take market positions. There may be a conflict of interest between the market maker’s own and the client’s trading activities.
• Costs: ECNs charge lower fees and commissions than market makers, as they do not take a spread on trades. Market makers earn a profit by taking a spread on trades.

ECN Brokers

Market Maker Brokers

ECN or Market Maker – Which is Best?

If you’re looking for fast trade execution and after-hours trade, you may prefer an ECN. ECNs are transparent and avoid conflicts of interest. Smaller traders may find it difficult to access an ECN because of access costs and minimum deposit requirements. 

Millions of traders trust and use market makers. Market makers may offer platforms with easier access and transparent bid and call prices. A reputable market maker that is regulated is a viable option for traders who appreciate the facilities available on the broker platforms. 

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