With A-Book (or STP) execution, the broker manages the risk of each trade individually.
But what if one trader opens a long GBP/USD position, and another trader opens a short GBP/USD position at or around the same time?
Rather than the A-Book broker having to hedge each trade separately with an LP, why can’t the risk exposure from the two trades “cancel” each other out?
Well, they can.
Instead of managing risk for every individual trade, a broker can aggregate customer trades that all contain the same currency pair.
We know aggregating trades as internalization.
For example, some customers may buy GBP/USD, while others may sell GBP/USD.
Different traders have different opinions.
So there may be instances where opposing trades can be “matched” or “offset” with each other.
When a broker matches one customer’s trade with another customer’s, it removes the market risk.
This is similar to hedging the trade with an external liquidity provider (LP).
Because the broker does not send the trades to an LP, it saves money by NOT having to transact with an LP and pay the LP’s spread.
A broker can aggregate all long and short GBP/USD positions and offset them against each other.
Therefore forex brokers want a large customer base. It makes it easier for them to “internalize” risk.
The larger their customer base, the more trades that occur, which means the higher the likelihood that trades can be offset with each other.
Since it costs money to trade with liquidity providers (because of the spread), this helps the broker save money.