Best Execution: Can Institutional and Retail Investors Benefit from Fast and Fragmented Trading?
50 Pages Posted: 22 Jan 2016 Last revised: 2 Feb 2016
Date Written: January 21, 2016
Fast trading and fragmentation of volume make equity markets complex, leading retail and institutional investors to demand sophisticated brokerage services. In a sample of stock transactions in Swedish large-cap firms, we find that brokers who show high trading sophistication when trading their own book do not deliver comparable execution quality when trading on behalf of clients. Best execution legislation states that brokers should take all reasonable steps to maximize the execution quality when trading on behalf of clients. For institutional clients, the shortcoming in execution quality is primarily driven by brokers' inability to route the transactions to the trading venue with the best price. For retail clients, in contrast, the shortcoming is due to poor liquidity timing and a strong reliance on active executions. Only institutional block trades benefit from execution by sophisticated brokers.
Keywords: execution quality, smart order routing, market timing, institutional investors, effective spread, implementation shortfall
JEL Classification: G10, G14, G15, G18
Suggested Citation: Suggested Citation