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Analysis: Investors Can Receive Quality Brokerage Execution For a Fraction of the Cost

Nov. 15, 2012
Investing, Investing Data, Investments
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NerdWallet conducted a Brokerage Expense analysis during which we interviewed investors with accounts at popular online brokerages, including E-trade, Schwab, and TD Ameritrade.  Many of these retail investors realized that their broker was not the cheapest option, but felt that superior execution justified the price difference.  As one interviewee put it, “I know I could pay less elsewhere, but I trust E-trade to give me great execution.”  But is it true that paying higher trading fees results in superior execution?

Who executes your trades?

When you submit an order to trade a stock, your brokerage has several options for how to direct that request.  Some brokerages, like E-trade and Interactive Brokers, usually execute your order directly.  Other brokerages, like Schwab and TD Ameritrade, outsource trade execution to a third party.  The broker also has the option of submitting your order directly to an Electronic Communications Network (ECN), which matches orders, or the broker can match your order internally with another order going the opposite direction.  In practice, most online brokers outsource trade execution to a third party execution service.

Name Brands versus Deep Discounters

Brokerages are required by SEC Rule 606 to disclose which third party execution services handle their order flow. Rule 605 requires those providers of execution services to disclose detailed data on how successfully those trades were executed.  NerdWallet collected this data and examined execution quality of hundreds of thousands of trades, which provided some surprising conclusions.

1.  Many brand name brokers use the SAME execution service as the deep discounters.  TD Ameritrade customers have their orders executed by Knight Capital, Citadel, and Citigroup for $9.99 per trade.  TradeKing, which charges only $4.95 per trade uses the exact same execution services.  CobraTrading, at $1 per trade, similarly uses Knight, Citadel, and Goldman Sachs.

2.  Price improvement is not significantly better at higher cost brokers.  While name brand brokerages were slightly more likely to achieve “price improvement” (execution better than the quote) than deep discounters, the amount of price improvement per-share was actually highest at Interactive Brokers, which charges only $1 or less per trade.  When considering the net impact of both probability and amount of price improvement, net performance is approximately the same across the industry, regardless of price point.

3.  The difference between the execution times of the best and worst performing brokerages was less than 0.8 seconds.  Schwab executed market orders in an average of 0.12 seconds in August for $8.95, while Interactive Brokers took 0.90 seconds for $1.

Below is a summary of NerdWallet’s finding on execution quality, as measured by speed and price improvement, at the most popular brokerages in America and a few of their deep discount competitors.  The results suggest that paying more does not always result in superior execution.

What type of brokerage should an investor choose?

Some may look at this data and conclude that investors should always choose Schwab, the brokerage with the fastest execution based upon the most recently available data.  But fastest at any cost is not always the best choice for a typical retail investor.  According to the most recent SEC filings, the 17 million accountholders of Schwab, TD Ameritrade, and E-trade execute transactions an average of less than twice per month.  This suggests that the majority of accountholders are not short-term traders for whom lighting-fast execution is critical.  Since the difference between the best and worst execution is only a fraction of a second, virtually meaningless to long-term fundamental investors, these customers would be well advised to choose a brokerage based on other factors like service and research or to opt for a deep discount broker at one-tenth the cost of E-trade or Schwab.

For some other traders, however, execution quality is the difference between profit and loss.  Pattern day traders, defined by the SEC as customers executing four or more day trades within five business days, often trade in and out of positions in hours or even minutes.  They typically take large risks by executing high volume transactions in anticipation of small price movements.  Low quality execution would greatly reduce or eliminate their profits. For these customers, execution quality matters and may be worth paying for.

Execution Quality:  Speed versus Price

Execution quality can be measured in terms of how quickly orders are executed or how often a great price is achieved.  It is important to decide which metric is more important to you when evaluating brokerages on their ability to meet your execution needs.  Some traders prefer that their order be filled immediately, even if it costs a cent or two more.  They are more concerned with the risk of missing the trade (having the market move in the direction they anticipate before their trade has been filled) than price of execution.  For these investors, it may be worth paying $8.95 per trade for a brokerage like Schwab that executes in an average of 0.12 seconds with only one-third of a cent average price improvement.  Other investors may desire more patient trade execution. If an investor is willing to be less aggressive with execution and risk potentially missing the trade, he may be able to achieve greater price improvement.  For these traders, the Interactive Brokers platform may be optimal.  This platform allows investors to execute their own trades, making the trade off between speed and quality themselves.  While only 10% are patient enough to achieve price improvement, those who do are able to improve price by over 1.4 cents, more than four times the price improvement of Schwab and similar brokerages.

When comparing execution speeds across brokerages, it is also important to remember that when you place a trade, the amount of time it takes for the brokerage to receive the trade varies based on the speed of your internet connection.  For this reason, brokerages are not accountable for how long it takes them to receive the order from a customer, but instead measure execution time from when they receive the order until the trade has been completely filled.   It therefore makes no sense to pay ten times the price for a fraction of a second improvement in execution unless you have a similarly fast internet connection.

Execution Guarantees

Investors who want to guarantee they get sufficiently fast or price effective execution can seek out a brokerage that offers an execution guarantee, but be careful to read the fine print.  Fidelity guarantees that orders will be executed in under one second, but only if certain conditions are met (fewer than 1000 shares, no penny stocks, single orders only).  E-trade also focuses on speed, guaranteeing two-second execution, but with even greater restrictions (fewer than 500 shares, no penny stocks, no commission-free ETFs, single orders only).  TradeKing focuses on price rather than speed by guaranteeing that market order execution will match or beat the national best bid or offer.  It is important to note, however, that these guarantees only assure that the investor will not have to pay for poor execution, not that he will receive great execution.  If the brokerage fails to meet the terms of the guarantee, the commission is simply refunded.

NerdWallet Recommendations: The Best Brokerages for Execution

High Speed Execution

  1. Schwab – 0.12 seconds
  2. TD Ameritrade – 0.20 seconds
  3. Wells Fargo – 0.21 seconds

Percentage of Trades Price Improved

  1. Wells Fargo – 88% of trades price improved
  2. Schwab – 84% of trades price improved
  3. E-trade – 79% of trades price improved

Amount of Price Improvement

  1. Interactive Brokers – $0.0144 average price improvement
  2. Wells Fargo – $0.0049 average price improvement
  3. Scottrade – $0.0044 average price improvement

Best Value for Fast Execution

  1. Cobra Trading – $1 for 0.46 second average execution
  2. TradeKing – $4.95 for 0.30 second average execution
  3. Schwab – $8.95 for 0.12 second average execution

NerdWallet has also created a Brokerage Fee Calculator that determines the best brokerage for an individual investor based on their needs and preferences.  The personalized list of qualifying brokerages is then ranked by cost.


Calculations for this report were based on data from official documents submitted to the SEC in compliance with SEC Rule 605 and SEC Rule 606.  For brokerages using third party execution services, performance was calculated based on the weighted average of the performance of execution services used.  Performance data was from August 2012, the most recent data available at the time of this analysis.


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