As U.S. regulators grapple with concerns around the rise of retail trading, including the practice of brokerage firms receiving payment for order flow, the Financial Industry Regulatory Authority Inc. (FINRA) is reminding firms of their overarching best execution obligations.
In recent months, a surge in retail investor activity, particularly on mobile trading apps, has captured regulators’ attention.
Among a variety of investor protection concerns generated by the trend is the practice of payment for order flow, which sees trading venues compensate brokerage firms for directly trading business (particularly retail orders) their way.
Earlier this month, the U.S. Securities and Exchange Commission (SEC) said it intends to review its market structure rules, including best execution requirements and the practice of paying for order flow (which isn’t permitted in Canada).
Now, FINRA has issued a notice to remind dealers of the existing rules and guidance in this area, particularly that brokers must not “let payment for order flow interfere with their duty of best execution.”
While the practice of accepting payment for order flow doesn’t necessarily mean that a brokerage firm is violating its best execution obligations, the regulator said it can “raise concerns” about whether firms are meeting those obligations.
The principle that firms must not let these incentives interfere with their duties to clients is embedded within both SEC and FINRA requirements, said the notice.
And, FINRA stressed, the fact that firms disclose that they are receiving payment for order flow doesn’t excuse them of the need to ensure best execution for clients.
“These disclosures provide customers and the public with important information, and member firms must provide them as required. However, FINRA notes that the SEC did not intend for order routing and execution disclosures to alter the legal duties that apply to a broker-dealer’s duty of best execution,” said the regulators.
FINRA also said the SEC has asked it to develop recommendations that may affect the rules and guidance surrounding best execution, and that it will be considering whether changes to its rules in this area are “necessary or appropriate.”