Currency Pairs and FX Market Structure

A share of stock trades at one price on one exchange (roughly). A currency can't work that way — there's no such thing as the "price" of a dollar in isolation, only its price relative to something else: euros, yen, pesos. Every FX trade is therefore a pair, and the market where those pairs trade is structured completely differently from an equity exchange: it's the largest financial market in the world by trading volume, and it has no single central venue at all.

Layers of the market

At the top sits the interbank market, where the largest banks trade directly with each other and via electronic communication networks (ECNs), often in size that would move prices meaningfully anywhere else. Below that, banks and non-bank market makers quote prices to their clients — corporates, asset managers, hedge funds — usually with a small markup over the interbank rate. Retail traders sit at the bottom of this chain, typically trading through a broker who is itself a client of a larger dealer, several layers removed from where the tightest interbank prices are actually made.

Worked example

The interbank market prices EURUSD at 1.0850/1.0851 — a one-pip spread. A retail broker, several layers down the chain, quotes its clients 1.0848/1.0853, a five-pip spread, keeping the extra 4 pips as compensation for taking on the client relationship and hedging risk. A trader buying $1 million worth of euros (roughly €921,659 at the mid) at the retail quote versus the interbank quote pays:

$$(1.0853 - 1.0851) \times 1{,}000{,}000 = 200$$

Roughly $200 more than they would have paid trading directly at the interbank rate — the cost of accessing the market through a layer of intermediation rather than being a bank counterparty itself.

What this means in practice

Because there's no central exchange, "the" FX rate at any instant is really an aggregate of many simultaneous, slightly different quotes across venues and counterparties. A quant building an FX strategy needs to know which layer of the market they're actually trading in, since spreads, available size, and latency all differ sharply between interbank ECNs and a retail platform.