At Schwab, we put our clients first. Best execution for our clients always takes priority when determining where to route orders. We have seen coverage in the media that has included ambiguous context and outdated terminology about the common industry practice known as payment for order flow (“PFOF”), which Schwab participates in just like other financial brokers. To that end, we want to provide some clarity on our approach to PFOF and how it benefits investors.
Payment for order flow is governed by SEC and Financial Industry Regulatory Authority (“FINRA”) rules regarding best execution and disclosure. Moreover, option PFOF and parts of equity PFOF originates through rules approved by the SEC pursuant to exchange filed rebate programs. Those rebate programs offset transaction and order handling costs and maintain low commission rates for our clients. With Schwab’s client-first approach to order execution, there is no connection between PFOF and order routing decisions.
To clear up a few common misconceptions:
- Schwab has no contractual obligations to route to any destination (exchange or off-exchange), nor do we “sell” order flow or route to the highest bidder. Orders are not “being sold,” nor are providers “paying for the right” to any of our clients’ orders. Instead, we set level rates across providers and route orders to the market centers that provide our clients the best execution. This creates competition between market centers that directly benefits our clients. And our rebate rates are similar among all the various securities exchanges and liquidity providers.
- All option executions occur on Exchanges and options PFOF come through SEC-approved exchange rules permitting the payments.
According to the SEC’s report on equity and option market structure, PFOF for options comes from exchanges in the form of “marketing fees” as well as transaction rebates. These pricing incentives are subject to the filing requirements of the Exchange Act and must be publicly posted.
- Order flow revenue made up approximately ten percent of our company’s total revenue in 2021, up from five percent in 2020. The increase is largely attributable to a significant surge in our clients’ overall trading over the pandemic year and from our acquisition of TD Ameritrade. By way of context, our clients’ daily average trading has increased by 110 percent from 2019 as illustrated in the chart below. Comparatively, PFOF accounted for about 72 percent of Robinhood’s revenue last year. And many of our brokerage industry peers do not disclose their percentage of revenue from PFOF at all.
Because of our client first approach to order execution, Schwab clients receive billions of dollars annually in price improvement on their orders. For every dollar in equities order flow revenue we received from third parties in 2021, those same third parties generated $6.50 in price improvement for our clients.
We provide additional information on www.schwab.com/legal/order-routing-1 regarding our order routing and execution quality practices to provide customers with greater transparency in those areas.