Oh, another thing for those that may be confused when they see the heading of this thread. Many Brokers that have advertised themselves as 'Direct Market' brokers at one point or another like TD-Ameritrade or say that they offer 'Direct Trading', but in actuality do not, so this is mainly addressed to them. The fact that they sell order-flow demonstrates an inherent conflict of interest for the PFOF broker. I'm not saying that when you conduct actual DMA trades at cost-plus/minus pricing to exchanges/ecns, that your orders will be sold to dark pools rather than sent directly to exchanges/ecns.
I'm not sure I understand the point of this thread. If you specify your order to be sent to a specific place then it will go there. If you don't specify - or default to use your broker's judgement as to how best to execute - then why do you care how your trade gets executed?
The point is that there are few direct access brokers left, especially few direct access brokers that are self-clearing. If you use a non-direct order through a penson IB, you can expect to be ripped off as that is in their own best interests as a result of PFOF. You are also limited to the capabilities of penson and the fixed share-costs of penson for non-direct trades. Furthermore you are generally limited to the capabilities of your clearing agent such as when it comes to locating shares to borrow, etc. Let's not forget that the ability for your IB to execute trades is dependent upon the financial stability of its clearing agent (Penson almost went bankrupt, but was bailed out by Peak6).
If IB internalized my fills for close to free (commission wise), I would be extremely happy. If IB charged me, say, .0010 per share to take my flow for a remove, I would save a lot of money -- and I am not what they consider toxic flow because, on IB, I hold positions for a few days.
Again, I'm not sure what your point is. I agree that there are very few self-clearing brokers left - there is also very little money in that line of business. Most brokers (self-clearing or not) give you a CHOICE of DMA or a proprietary routing system. I fail to see why that is an issue. If your favorite "exclusive DMA broker" added a dark pool to it's choices couldn't you just choose not to use it?? First, you seem angry at Penson for some reason - Penson isn't even technically in business so you are moaning and groaning about a failed, defunct business which had bad business models/practices since they were not financially sustainable. I have no idea what your issue with Penson is but it is no longer so I'd get over them. Second, how do you know that you get ripped off if they internalize or sell their order flow? I am personally not a huge fan of internalization or selling order flow - but in their defense they are required to give you price improvement so you do end up getting a better deal than you would have had you gone to the exchange directly. So how do you know you are getting ripped off? Have you gotten ripped off and if so would you share that? Third, yes I agree that you are limited to Penson's capabilities. Since it is no longer it has very few capabilities. You will always be limited to your broker's suite of services they offer - no matter who you trade through. Although some brokers have better short-lists than others, you do sometimes have a choice to go out and borrow on your own from an independent 3rd party stock loan service... So again, you have choices. Your last point is stating the obvious. If your clearing agent goes out of business then yes, I agree with you... your executing broker is going to have issues. Again, I don't know what your issue is with Penson but the whole industry is getting squeezed right now. There is little money in being a self-clearing broker dealer so if that is your gripe I would start complaining about regulations and regulators because very few people on Wall Street are in business to lose money.
I agree with all this. Especially, "Second, how do you know that you get ripped off if they internalize or sell their order flow?" You don't. I believe as long as you have a choice or get a benefit from the dark pool only execution, what is the problem? If you believe your NOT getting value from your broker sending your orders to a dark pool, where do you think the $9.99 or lower stock trades come from. You think they make enough money from just that?
There are major client costs to internalization and PFOF. I've seen the BBO completely cross my orders when they've been sent to internal routes, and missed major moves in those securities which would have been in my favor. So execution quality can be absolute garbage, and there's no recourse for the client. Many true exchanges offer price improvement of their own, and it's measured in cents rather than 1/100 of a cent. I've seen my orders internalized for a "price improvement" of $.0001, so I "save" like 2 pennies for the entire trade, in exchange for missing a $5,000 move in another trade, solely due to internalization. Not only that, but internalization dramatically reduces the incentive for liquidity adders to post size at tight spreads. We could dramatically increase visible liquidity simply by banning internalization, and/or by forcing brokers to pay back 100% of payment-for-order flow to the client. Not to mention the fact that during the flash crash, internalizers disproportionately fled the scene, accelerating the drop. Brokers only internalize and/or using PFOF for their own benefit -- you're paying for it, whether you see it or not. If $10 a trade isn't possible without them taking money from their clients "in secret", then brokers should simply charge more and let the prices reflect what's really happening to their orders. In the end, everyone (except that broker) will be better off, on average. Even non-internalized dark pools are quesitonable -- who knows what's happening in there? http://www.tradersmagazine.com/news/pipeline-dark-pool-transparency-109555-1.html Dark pools muppet bait for institutional muppets, just as retail internalization/PFOF coupled with "price improvement" and/or deceptively low commissions are muppet bait for retail muppets. Either way, the brokers get to shave their clients for a few fractions of a cent. The SEC doesn't like it and knows about it, but there's enough ignorance on the part of clients, coupled with stalwart resistance on the part of the brokers, to make reform in this area very difficult. It could well take Congress to get involved and straighted this out.
It was YOUR CHOICE to route your order that way. There is no recourse because YOU CHOSE the "no recourse" option when you submitted an order like that. Again, if you don't like it then why are you sending your orders to internalization crossing engines? I'm generally against selling order flow and internalization. I don't like it and I don't agree with it but #1 - traders keep using it... it's like smoking... people keep buying cigarettes so companies keep making them... and #2 there is such a squeeze on the industry that these retail firms need to sell order flow to offer you (the trader) the low ticket prices you demand. What if Knight pays more than GETCO and you the trader could sell your trade to Knight vs. GETCO? Then how would you trade because that is an amazing idea until you realize it would turn your broker's bottom line from black to red. RE: Flash Crash - I don't know enough about how fast internalization pulled out of the market vs. direct orders so I can't comment - but if internalization was banned as you suggest I think it would be more healthy for the markets... to a limited extent (until traders started complaining they are getting picked off by someone else). If you are for putting brokers out of business then how would you trade? You have to pay to play and you either need the capital to get over that hurdle or survive in the retail world until you can break free of it. I am generally against internalization but what you are saying makes no sense. If your broker needs that internalization income to stay alive then how would you trade if they went out of business? Do you have more capital you can just deposit into another firm's account? Or... what is your average trade's profit? Are you saying that you can stomach $20 ticket fees, $20 in and $20 out = $40 per trade... can you trade like that? All that I can say is that if you don't like dark pools don't use them. We went electronic a few years ago and ever since then there have been these things called algorithms and computers. Most people have accepted them and adapted to them. Before the electronic world existed a floor trader could get a big block order and keep his/her mouth shut about size and just work the order. Today that is not possible as everything is transparent. If you think the flash crash was bad picture something slightly smaller than the Russell re-balance EVERY DAY ALL DAY LONG. Front running would be rampant and a large block order could cause the most liquid stocks to become illiquid faster than you can imagine. So you think every time Congress gets involved with something things will magically get better? How did that work with housing and home ownership? I agree with you that something needs to change but saying "congress needs to get involved" is an ignorant statement - follow the money... They are paying lobbyists and doing everything they can to make a good thing last for as long as it can. If you want Congress to get involved you either need to re-elect a decent Congress or bait them with something else they think will be "better" (or more profitable).
To be fair 'brokers' that clear through Penson, aren't true brokers in the sense that they are Introducing Brokers and your actual broker happens to be Penson. Penson sets the fixed cost-per-share basis for every transaction, the Introducing Broker must place their price on top of that. With Penson they openly state that orders that are not directly routed to ECNs/Exchanges are sent to their friends at Knight, Citadel, et. al. So, you don't get the best price, you get last priority as a part of the monopoly order flow of the HFT market-maker that owns your order. The HFT firm will tell the authorities that the order flow received the best pricing relative to fellow hft market-makers, but that's about it. The truth is that your order execution is made subordinate to other orders. That is the rip. There is a significant difference between executing against captive order flow directly in a dark pool, and being part of the dark pool's monopoly order flow. You don't get priority and your orders will be passed not only for Knight's own orders, but also for traders that directly execute against Knight's order flows. You may think that you're getting a deal at $9 a trade, but in reality you're paying for that it increments in terms of getting poor fills over time. HFT firms are using your liquidity to leverage their own trading pool, you don't benefit from that liquidity financially, penson and your IB do. This also means that the rate that your IB provides will ultimately be based on what Penson sets in terms of Penson's DMA offerings as well. Right now, Lightspeed is offering .0045 per share not including exchange fees, however if Penson/peak6/apex went bankrupt, and they switched to another broker/dealer they would be subject to the new pricing model set by Southwest Securities, Wedbush, or Knight or whoever else. When brokers route their orders as part of order flow to ubs, or Knight or whomever, this gives ubs or Knight a captive order flow to execute against. The set a flash trade, skim the profit and give a kickback to the IB and to the Broker. This is different from a broker that has an actual Direct-Market-Access model. In other words, with Lightspeed even if Lightspeed does not sell order flow for non-directed trades, the orders will end up going to Penson and Penson will sell whatever just the same. Whereas with a self-clearing firm that does not sell order-flow like IB, Tradestation or Vision, their business is to give you the best pricing possible even with their proprietary order management systems, the difference is that they will profit from liquidity rebates and not you, but they will still give you the better execution price as your orders by nature are not being sold and traded against by counter-parties. They don't profit on the spread, they profit on the commissions only. No counter-parties=lower effective cost for the client/end-user. I don't see how you can argue otherwise, unless you're an institutional prime brokerage client at GS or another BB and don't mind GS front-running you in exchange for the margin they provide. That's a 'fairer' trade-off, but as a retail client, you don't get anything.. And how are those broker/dealers, IBs and HFT market-making firms making a profit? Through the use of front-running/flash-trading. Just because a firm is self-clearing is not enough. Look at Etrade, they sell their order flow anyway, so orders that are going to go through that retail broker is going to be held captive by Institutional Traders to improve their liquidity, not yours. Also taking a look at the pricing structure for Lightspeed, it is still very expensive compared to what Institutions pay. Why? Because Lightspeed sets its commissions per share above the rate that penson mandates. This means that there are limits to the extent that organizations such as Lightspeed can have in terms of flexible pricing for its products. They are basically skimming the difference, and for what? For the lowest-quality broker-dealer possible. A Broker-Dealer (Penson) that makes most of its profits from selling order-flow. So even if Lightspeed has success, this is actually ironically bad for the integrity of Penson's order-flow based business. This will weaken the actual business of Penson, I don't see how this is a sustainable business model. Brokers that sell order-flow are basically the modern limited variants of bucket-shops in the equity space. Believe me, if the regulations were more relaxed they would be proper bucket-shops similar to how FXCM/Gain is in forex. That's not to say that you can't profit from a bucket-shop, but if you don't realize that you're getting ripped off, you need a reality check. Though of course, there are some brokers that will rip you off less than others and provide you with better fills based on the spread (E.G. IB will give you better fills through their smartrouter than a typical penson based broker using their smart router, and that penson based broker may give you better fills than say Scottrade, etc.). Everything is relative. Most likely after the Peak6 venture fails, Knight, Citadel or UBS, etc. will buy-out penson to capitalize on that liquidity.