The cost to retail investors of buying and selling stocks varies widely among online brokerages, according to a recently published analysis by a group of University of California researchers. The team assessed so-called execution quality of six brokerage platforms by generating a large sample of simultaneous market orders. The upshot is that TD Ameritrade emerged as offering the best price improvement; at the other end of the spectrum were two platforms owned by Interactive Brokers Group (IBKR).
Consider working with a financial advisor who can help you find the trading platform that best suits you goals and engagement level.
Why This Matters
Brokers are required by regulation to seek the best execution of a retail investor’s trades, whether it is buying or selling. If a customer wants to buy 100 shares of a stock that is selling for $30, his or her broker should try to get those shares for less. It is often the case that brokers succeed in getting the trade done by paying a fraction less than the listed price. Likewise, brokers can get a fractionally higher price than listed for a client who is selling. The difference is known price improvement, a metric that is the main gauge of execution quality.
Though an individual trade’s price improvement is minuscule, a big picture perspective underscores just how consequential these tiny price changes amount to when considering the industry as a whole. “Aggregated over all retail trades, we estimate a single basis point of cost (or savings) is equivalent to approximately $2 billion annually,” the researchers said.
The matter of brokers’ execution quality is timely, as the Securities and Exchange is poised to release regulations, some of which address ways to enhance price improvement.
How the Study was Done and Its Results
The researchers bought and sold equities 74,801 times over an almost half-year time period. They placed the same trades simultaneously with different brokerages and gauged the actual prices they got. Wall Street did not sponsor the study, and the researchers, who used their own money, reportedly lost approximately $23,000 on their trades.
The price improvement of TD Ameritrade was an average of 7.8 cents; the price improvement of the IBKR Pro was 2.8 cents. The other brokerages fell in between those two. Fidelity came in second best, then E*Trade as a close third. After that was Robinhood. IBKR Lite followed Robinhood with IBKR Pro emerging as the brokerage with the lowest price improvement. These results did not reflect the effect of commissions.
One result of the study surprised researchers, and that is the effect of payment for order flow (PFOF). PFOF is a common practice in the investing world that lets retail brokers be paid by market makers, wholesalers and others in exchange their retail clients’ orders to buy and sell securities. In a world of low- and zero-commission trading it has been crucial in keeping brokerages profitable and, thus, in business.
PFOF has been criticized by some SEC officials as reducing price improvement. But that’s not what the study found. “We find that PFOF to brokers cannot explain the differences in price improvement,” the study states.
The Bottom Line
Researchers found an “astonishingly large” difference in price improvement among the six platforms evaluated. The winner was TD Ameritrade, which is owned by Schwab, and the brokerage with the least price improvement was IBKR Pro. The dispersion was due to off-exchange wholesalers systematically giving different execution prices for the same trades to different brokers. Perhaps surprisingly, PFOF did not turn out to be a significant factor in the study’s results.
Tips on Investing
A financial advisor can offer valuable insight and guidance as you evaluate which trading platforms best suit you. Finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
Use our free investment calculator to get a quick estimate of how your securities will do over time.
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