The SEC may soon propose an end to payment for order flow. This controversial practice lets market makers buy the right to execute trades, particularly those of retail investors.

From a report that broke in The Wall Street Journal last night:

Chairman Gary Gensler directed SEC staff last year to explore ways to make the stock market more efficient for small investors and public companies. While aspects of the effort are in varying stages of development, one idea that has gained traction is to require brokerages to send most individual investors’ orders to be routed into auctions where trading firms compete to execute them, people familiar with the matter said.

The SEC’s proposed trading changes could take effect later this year or in early 2023:

After a year of internal deliberations, the agency has homed in on a narrowing set of proposals. If the SEC votes to release them for public comment later this year, they would have a path to implementation, as Democrats hold a majority of seats on the commission.

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Market makers competing against each other to offer the best price should be much fairer than the current system. Today, large market makers like Citadel Securities can pay brokers like Robinhood Markets for the right to execute trades.

Citadel and other major firms may be dragged kicking and screaming into this fairer market:

A spokesman for Citadel Securities said the firm looks forward to reviewing the SEC’s proposals and working with the agency.

“It is important to recognize that the current market structure has resulted in tighter spreads, greater transparency and meaningfully reduced costs for retail investors,” the spokesman added.

Citadel’s spokesman conveniently fails to mention that the firm was fined $22 million by the SEC for not giving investors the best price on their trades.

But in fairness, one study found that payment for order flow has resulted in lower costs. Those payments have let many brokers reduce their commissions to zero.

Despite zero commissions, the price brokers give investors may be so bad that the investor loses in the end.

Brokers claim that payment for order flow trades are being executed at the best available price. But to this day, I’ve never seen a broker release a data set proving it.

An auction model is much more transparent. It could go a long way to restoring retail investors’ confidence in financial markets.

What do you think of payment for order flow? Leave a comment at the bottom and let me know!

More on markets:

Hedge Fund Tiger Global Losing $136 Million a Day, Down 52%

$6B Hedge Fund Cut Off from Trading As Investigation Looms

Credit Suisse May Need Up to $1 Billion After Huge Losses

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Photo: “CMI 101: Demystifying Derivatives with CFTC Chairman Gary Gensler” by Third Way is licensed under CC BY-NC-ND 2.0.