Brokers have been put on notice: treat your customers’ orders as well as you treat your own.
The Financial Industry Regulatory Authority, Wall Street’s self-regulator, recently said firms using the fastest, most expansive price databases for their own stock trading must also use those so-called direct feeds when handling client orders. That means they can’t just rely on the decades-old repository known as the SIP––which gives a slower view of trading that critics say exposes investors to predators.
The new guidance from Finra foreshadows a stepped-up effort by the regulator to police whether brokers are fulfilling their duty to give client orders the best possible execution.
Michael Lewis’s 2014 book “Flash Boys” argued that high-frequency traders armed with powerful computers can exploit fraction-of-a- second time lags between the direct feeds and SIP to trade ahead of slower-moving investors.
“‘Flash Boys’ raised the question in everybody’s mind as to whether or not the SIP is the right way to go,” said Lee Schneider, an attorney at Debevoise & Plimpton in New York and former general counsel of brokerage Convergex Group LLC. “Finra is setting themselves up to bring enforcement cases on best execution with this guidance.”
Backbone Of Trading
These feeds serve as the backbone of trading in the U.S. equities market, providing the mechanism for determining how much stocks cost at any given moment. Critics see an uneven playing field that’s made the business of trading stocks unfair for many.
The SIP––which stands for securities information processor––consolidates prices from the 11 U.S. stock exchanges and dozens of alternative venues to produce snapshots of the market. It’s been the benchmark for U.S. stock prices since the 1970s. But because it takes time to collect and collate the information from each market, the SIP ends up giving a slower view of trading than the feeds exchanges offer.
Because of that, the most sophisticated traders subscribe to the direct feeds from each exchange, generating their own analysis of the market. Doing so gives a more up-to-date picture of trading than using the SIP.
In the U.S. stock market, brokers are supposed to send trades to whatever exchange has the best price at the moment. In its new instructions, Finra described how brokers should go about determining what the best price is.