The Retail Execution Quality Landscape

Market observers criticize the practice of retail brokers routing retail orders to wholesalers and argue that retail flow should execute on exchanges. Using comprehensive data, we show that both wholesalers and exchanges have characteristics beneficial for retail orders. Wholesalers provide substantial (significantly beyond de minimis) price improvement, while exchanges offer lower liquidity costs (realized spreads). On balance, price improvement dominates, and wholesaler intermediation saves retail investors close to a billion dollars per month. Four characteristics of the market for retail order flow are inconsistent with wholesaler market power. First, retail brokers reward wholesalers that offer lower liquidity costs with more order flow. Second, the largest two wholesalers charge the lowest liquidity costs. Third, neither a new wholesaler entry nor an increase in retail broker bargaining power reduces liquidity costs charged by wholesalers. Fourth, cross-sectional differences in liquidity costs are driven by proxies for inventory costs.