STP stands for Straight Through Processing, simply a model of order execution without manual intervention. In simpler terms, the order is sent directly to the liquidity provider without any dealing desk.
STP forex brokers promise more transparency and eliminate the risk of conflict of interest. Companies use computers, electronic exchanges, and mainframes to improve this model further.
Let us understand how STP works in more detail.
How Does It Work?
STP systems are designed to streamline financial transactions and reduce the intermediary costs & time significantly as opposed to manual processing involving a forex broker or market maker brokers.
At its core, STP is all about using application programming interfaces (APIs) and messaging protocols that facilitate data transfer between two systems. These systems could be located worldwide, and the transaction would still go seamlessly.
Since no intermediary is required, the time taken is also reduced by a large margin. The system first processes the information and then creates a transaction, which is then transmitted to a central system for processing.
Once the system has validated the data, it is then routed to the destination system for further processing or settlement. It is only in case of an error, that the system routes the transaction to dealing desk brokers.
Significance of Deploying STP in Payments
As stated above, the traditional method of sending money involves multiple departments both on the initiation and receiving end of the transfer, and it can take several days to complete. The payment initiation is usually done through phone calls, emails, or software programs, and a person must confirm the settlement details at both companies involved before the payment can be processed.
The settlement details are then manually input into a payment system, which is later confirmed by a supervisor to ensure accuracy before the payment is released. Payment transactions were sent via telegraphic message using a unique code before the advent of ACH and SWIFT. Depending on the details involved, this process could take several hours to a few days to initiate.
- This problem was even adverse when it came to international payments, and the transfers used to take several days with a high processing fee. Furthermore, telegraphic transfers also have a higher propensity for errors. STP helped make this more efficient and cost-effective for people.
- Similarly, for e-commerce, STP allows businesses to authenticate their clientele on the web and sell products. For instance, www.amazon.com has been recently using automation and sophisticated algorithms through which you can purchase things easily.
- Lastly, cryptocurrencies also deploy a form of STP to remove the need for a holding company intermediary.
Pillars of Straight-Through Processing
This financial payment model is built on the following pillars:
Concurrent Exchange of Information
The straight-through method makes it easier for concurrent information to be exchanged throughout the transaction in a setting that is fully automated and operates in real time.
Traders can enjoy the advantages of computer systems that process information in real time when they use straight-through processing. The straight-through procedure mandates the automated input of data as well as the functions of other individuals, as opposed to the traditional method of manually entering data.
The key, correctness, connection, reliability, scalability, and security of the implementation of straight-through processing are some of the dimensions that are taken into consideration throughout the evaluation process.
Use of computers to handle financial transactions
The straight-through procedure eliminates the need for the manual processing of transactions using physical checks and security by replacing it with an automated exchange of information between traders to validate settlement details.
The architecture of straight-through processing includes automated communication protocols, which make it possible for the players in the trade lifecycle to connect with each other in a fluid manner. Sell-side and buy-side businesses, custodians, and clearinghouses are examples of market players that employ straight-through processing (STP).
How STP Saves You Money!
Using an STP system minimizes the risk of inaccurate payment settlement or manual entry which could lead to costly errors when added over time. For instance, let’s say a financial institution has not deployed the STP system in place and relies on manual payments.
If the institution processes 300 payments daily, and even 10% are processed incorrectly, then we are looking at roughly 900 wrong payments per month. To recite for this error, they will then be charged a standard fee applicable for payments which are not processed properly. The bank correspondents then have to perform manual entries to fix the error.
If you paid $10 for each wrong payment, then we are looking at a number around $9,000 per month. If the same situation includes an STP intervention, then the error rate would fall down to 1% (or even lesser in most cases), meaning that only 60 payments would be wrong. This will merely cost you $600 to cover, instead of the gargantuan amount being paid earlier.
STP vs A-book
A-book is a model where the broker acts as a market maker and takes the other side of the trader's order. The broker then hedges the risk in the underlying market. The advantage of A-book is that it allows brokers to offer lower spreads and commissions to traders.
While both models have their advantages and disadvantages, STP is generally considered better for traders because it offers faster execution times, more transparency, and eliminates the risk of conflict of interest. With STP, the broker does not have any incentive to manipulate prices or execute trades against the trader's interest, which can be an issue with the A-book model.
An A-booked trade is also known as post-trade hedging, whereas STP also goes by pre-trade hedging. These trades will help you with faster order execution and minimal slippage because the broker executes your trade first followed by hedging.
In case of an STP broker, the order execution is slightly slower plus the probability of slippage is also high. The broker first ‘locks in’ your order with matching LP and then executes it, which is where the name pre-trade hedging came from.
But then again, STP eliminates the slippage between the hedged trade and customers’ order fills. For perspective, slippage is the difference between the price at which an order is filled and the actual price of that order.
STP vs. ECN
Both ECN and STP offer faster execution times and more transparent pricing structures than other types of trading models, such as market maker accounts.
ECN is a type of trading platform that connects traders directly with liquidity providers, such as banks, other traders, and brokers, via a network of electronic communications. An ECN acts as an electronic marketplace where traders can see the best bid and ask prices available and can place orders with a single click. ECN also allows traders to trade anonymously, with their orders being matched automatically with the best available prices.
One of the key differences between ECN brokers and STP is that with ECN, traders can see the order book and depth of the market, giving them more transparency in the market. This transparency can help traders make more informed trading decisions. Additionally, ECN often offers tighter spreads, as prices are sourced from multiple liquidity providers, making it a more cost-effective trading model. However, ECN may require higher trading costs, such as commissions and fees.
What is an STP Account Type?
An STP account type is a forex trading account that follows the Straight-Through Processing (STP) model for order execution. In an STP account, orders are executed automatically and quickly, with the broker acting as a neutral intermediary. The broker receives quotes from various liquidity providers and passes the best available prices to the trader.
STP accounts suit traders who prefer faster execution times, tighter spreads, and a more transparent pricing structure. However, STP accounts may have higher trading costs due to the commission or markup charged by the broker. It is important to choose a reputable broker when opening an STP account to ensure fair and reliable order execution.
In conclusion, STP has helped make payments faster, reduced costs, and automated the process to such an extent that human errors are reduced by 90%. As technology continues to evolve, we can expect to see STP's influence increase in the years to come, bringing even more convenience and efficiency to financial transactions.
Now that you know all about STP execution, here are some more frequently asked questions:
How Do You Know If a Broker is STP?
You can determine whether or not your broker is STP by checking the average transaction speed. Usually, STP brokers have a transaction speed between 80 and 140 milliseconds.
How Do STP Brokers Make Money?
STP brokers can make money by two primary ways. By either charging their clients a commission or by applying a markup to the price feed.
Is a Market Maker a Broker or a Dealer?
A market maker is a company or individual that facilitates trading in a particular security by buying and selling that security on its own account.
A dealer is similar to a market maker, but instead of buying and selling securities for its own account, a dealer buys securities from one party and sells them to another party.
Dealers make money by buying securities at a lower price and selling them at a higher price, earning the difference between the two prices.