Payment for order flow worries the SEC. Maybe it shouldn’t, says a study.

Critics of retail brokers like

Robinhood Markets

condemn these companies for routing client orders to market makers like Citadel Securities in exchange for payment. Gary Gensler, chairman of the Securities and Exchange Commission, has suggested banning such payments for order flow, arguing that such clients need to have less and less price on their stock trades.

It is suspected that larger payments to brokers must be offset by less favorable execution prices. But that’s not what a new study reveals.

In an August 13 working paper, five finance professors analyzed 85,000 stock trades they made through five leading retail brokers. They got very different prices through different brokers for identical buy or sell orders at the current market price.

But their best price was from a broker that accepts order flow payment, namely TD Ameritrade, now a unit of

Charles Schwab

(symbol: SCHW). Fidelity, which does not accept any order payments, obtained lower prices on faculty transactions than TD Ameritrade. And its prices were no better than those of the E*Trade unit of Morgan Stanley (MS), which accepts payments. Robinhood, which used revenue from order flow payments to subsidize the industry’s first commission-free trade, offered middle ground pricing.

Interactive brokers

(IBKR) ranked last in teacher order fulfillment pricing.

In 2020, TD Ameritrade received $1.15 billion in order flow payments, roughly 20% of its revenue. Robinhood got 72% of the revenue from these payments in 2020, while E*Trade got 14%.

“There is no relationship in our data between paid order flow and price execution,” says Chris Schwarz, professor of finance at the University of California-Irvine, who authored the paper with his colleague Philippe Jorion, professor at UC-Davis Brad Barber, University of Washington. Professor Xing Huang and Terry Odean of UC-Berkeley.

Since most retail brokers have followed Robinhood’s example by reducing commissions to zero, the difference in cost between them today mainly depends on the quality of the price they get on the orders they send. for execution at an exchange or over-the-counter market maker. Over the past decade, brokers have sent an increasing share of their clients’ buy and sell orders to be filled by market makers like

Virtual Financial

(VIRT) and Citadel Securities.

The advantage for clients is that market makers give a better price on a particular stock than the quoted numbers, by executing trades at prices within the quoted spread. The result is that retail traders get a little more per share when selling and pay a little less when buying.

In the absence of price improvement, a person buying a stock would pay the offer price at the top of the quoted spread, while a seller would receive the offer at the bottom. The best price a trader can hope for is the midpoint of this spread, but how often this happens varies.

The professors write that they were amazed at the magnitude of the differences in execution prices between different brokers. Sixty-nine percent of trades executed for Ameritrade were in the middle of the quoted spread, meaning the client actually completed the trade without the market maker taking a discount, compared to 16% for the Interactive Broker account Pro.

Among the stocks in the study, the average bid-ask spread was 16.8 cents, a range with a midpoint of 8.4 cents. On average, Ameritrade realized a 47% price improvement from this spread, meaning sellers got a price 7.8 cents above the quoted bid, while buyers paid 7.8 cents. cents below the bid, numbers that are all fairly close to the midpoint. The comparable figure for the Interactive Broker Pro account was 19%, for an average saving of 2.8 cents.

Fidelity and E*trade each saw an average price improvement of around 35%, while the figure for Robinhood was 27%.

“American retail traders are treated really well, better than any market in the world,” says Jason Clague, who heads up trading operations at Schwab, Ameritrade’s parent company. “The last decade has been a steady pace of steady improvement in retail results.” A recent white paper from Schwab notes that the spread obtained on retail transactions in the United States have decreased by 67% over the past 15 years, compared to quoted spreads.

Fidelity notes that it is the only retail broker that reports its execution performance to a standard that was developed by the industry but later shunned by other brokers. “We support data-driven research on execution quality and have always called for greater transparency in retail execution quality to allow investors to determine which broker is best for them,” said a Fidelity spokesperson. “We encourage others in the industry to provide a full range of execution quality statistics for the benefit of investors.”

Interactive Brokers, Robinhood, E*Trade and Virtu did not immediately provide comment. The SEC declined to comment.

While the study casts doubt on the payment of order flow as an explanation for the different levels of price improvement by brokers, what accounts for the better prices achieved by some brokers? One explanation may be the differences between the clients of different brokers. In addition to individual investors, Fidelity also manages accounts for family offices and investment advisers. Interactive Brokers woo savvy and active traders. And Robinhood customers have been shown to herd trade under the influence of social media.

“The level of price improvement will vary by broker or stock depending on a number of factors, including the nature of order flow and order types,” says Gregg Berman, who leads market analysis. market at Citadel Securities. “The document recognizes the significant price improvement we and other wholesalers are offering retail investors as we compete for broker flow.”

Schwarz and his co-authors took great care to send the same stock trades to all five brokers simultaneously. They traded over 128 different stocks, across a range of market cap, liquidity and volatility, while making sure to include retail favorites.

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AMC Entertainment Holdings




Aurora Cannabis


Bank of America


Exxon Mobil



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The professors funded the trade themselves, at considerable cost. Each day trading account required a minimum balance of $25,000, and trades in and out of professors took place in the six months between December 2021 and June 2022, when stocks plunged. “We lost tens of thousands of dollars,” says Schwarz.

Funding constraints limited teacher trades to a few shares per order, on average. This makes their findings difficult to extrapolate to the treatment traders can expect for larger orders.

Expensive, self-funded experiments shouldn’t be needed to compare execution prices at brokers and market makers, the professors say. The SEC should standardize the disclosure of execution performance data, they argue, but the relevant rules have not been updated in years. Among other things, the rules do not take into account odd lot orders of less than 100 shares, which now account for more than two-thirds of retail trades.

“It’s a study I wish I had done,” says Georgetown University finance professor James Angel, who was not involved in the research. “Different brokers do different jobs in terms of quality of execution. These differences are not just due to order flow payout.”

Email Bill Alpert at [email protected]

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