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QuickTake

Why Payment for Order Flow Made Trades Free But Left SEC Skeptical

Hedge Funds Face SEC Rule For Faster Disclosure Of 5% Stakes
Photographer: Al Drago/Bloomberg
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The way stocks are bought and sold in the US has changed dramatically over the past decade, and at the heart of the changes is something called payment for order flow, or PFOF. It’s what’s made much of stock trading commission-free, which in turn brought into the markets the millions of new retail investors who fueled 2021’s so-called meme stock revolution. But PFOF has also become a focus of attention for the US Securities and Exchange Commission and other critics, some of whom wonder if the “free” model is in fact the best deal.

It’s money paid to brokerages for the right to execute orders coming from the brokerage’s retail investors. The firms making the payments are electronic wholesalers, also known as market makers, and include such giants as Citadel Securities, Virtu Financial and Susquehanna International Group. Between them, Citadel and Virtu handle more than half of the wholesale trading market; Citadel alone handles one in every four US equities trades. The payment recipients are retail brokers that range from newcomers like Robinhood Markets Inc. to veterans like E*Trade and Charles Schwab Corp. The payments are allowed if the market makers and brokerages are providing brokerage clients with what regulators consider “best execution” on trades, a standard based on a combination of price, speed and other factors.