The Effect of Payment for Order Flow on Your Trading Operations
Payment for order flow is probably something you don't understand if you don't work in financial markets.
Basically, it addresses the compensation that a broker gets, not from the customer, but from a third-party person that wants to manipulate how that brokers sends his orders to his clients.
Dealers and different exchanges would be willing to shell out money in order to work with a certain broker's clients because these clients are usually very uninformed.
A lot of times, these are traders that are investors trading out of fear or emotion, and they need to raise a lot of cash quickly, so they don't know the true value of an asset.
The dealer is purchasing order flow that he hopes will be uninformed, so he can hopefully buy at a market price and sell at a higher price.
This way the client will not really know how much the assets are worth.
People that are running the market can purchase some orders and make the spread, thereby reducing the risk of the spread being too narrow because the people buying the asset are uninformed.
Thus, it can make a difference in how you route your trading operations.
Payment for order flow can make a huge difference in how you are routing your orders because you want to sell this information to third-parties that can give you money for your clients' uninformed attention.
They end up making more money off your clients, and you make money by routing them toward these market-makers.
Market-markers sometimes make a huge spread by working with the most uninformed investors.
This might not be right, but it is something that happens all the time.
It's a commonly held idea that in competing markets the money that middlemen get for getting rid of their uniformed customers cuts down on commissions for certain types of investors, especially those in the retail market.
Receiving payment for order flow also enables a number of tiny competitors to effectively compete.
Some people think that those who do not receive order flow bear a lot of the cost.
Some people have described it as a bribe.
The SEC currently allows the practice because it allows competitors to truly compete, and it helped reduce the chance of monopoly power.
This is sometimes viewed as a bad thing, but a lot of people do it, and it is not a terribly bad thing in reality.
It has its place in the market system as a whole and it works too.
Basically, it addresses the compensation that a broker gets, not from the customer, but from a third-party person that wants to manipulate how that brokers sends his orders to his clients.
Dealers and different exchanges would be willing to shell out money in order to work with a certain broker's clients because these clients are usually very uninformed.
A lot of times, these are traders that are investors trading out of fear or emotion, and they need to raise a lot of cash quickly, so they don't know the true value of an asset.
The dealer is purchasing order flow that he hopes will be uninformed, so he can hopefully buy at a market price and sell at a higher price.
This way the client will not really know how much the assets are worth.
People that are running the market can purchase some orders and make the spread, thereby reducing the risk of the spread being too narrow because the people buying the asset are uninformed.
Thus, it can make a difference in how you route your trading operations.
Payment for order flow can make a huge difference in how you are routing your orders because you want to sell this information to third-parties that can give you money for your clients' uninformed attention.
They end up making more money off your clients, and you make money by routing them toward these market-makers.
Market-markers sometimes make a huge spread by working with the most uninformed investors.
This might not be right, but it is something that happens all the time.
It's a commonly held idea that in competing markets the money that middlemen get for getting rid of their uniformed customers cuts down on commissions for certain types of investors, especially those in the retail market.
Receiving payment for order flow also enables a number of tiny competitors to effectively compete.
Some people think that those who do not receive order flow bear a lot of the cost.
Some people have described it as a bribe.
The SEC currently allows the practice because it allows competitors to truly compete, and it helped reduce the chance of monopoly power.
This is sometimes viewed as a bad thing, but a lot of people do it, and it is not a terribly bad thing in reality.
It has its place in the market system as a whole and it works too.
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