The Importance of Choosing the Right Stock Broker
A quick Google search will return a plethora of services from stockbrokers, local and international providers. Access to a diverse range of brokers has increased since the proliferation of online services; so how do you choose the right broker for your needs?
The most important factor is the best execution of a trade. Best execution involves a number of things besides simple fixed transaction fees. The default nature of consumer investors is to select the platform or service with the lowest commissions. It is no secret that there are a growing number of platforms that offer stock trades without any commission.
Now think for a second about how it is possible that a business looking for profit in a business that revolves around brokerage fees can survive the long run without charging anything. The answer lies in the price that is actually delivered to customers. Commission-free retail platforms primarily use wholesale market-making firms in their execution rather than having access to the stock exchange.
This is because their menu of investment options is generally much smaller compared to top brokers.
Wholesale Market Makers are large brokerage firms that trade using their own capital. Market makers offer to buy and sell stocks and make money on the spread – the difference between their buy price and their sell price.
This means that what you “save” on commissions on the other hand means that you might not necessarily get the best price available in the market. This is called sliding. Slippage also involves a number of additional factors.
The cost of execution is impacted by delays in delivering the order to the market, the impact on the market of executing the trade and also the opportunity cost of any unfulfilled part of the order.
Therefore, it is fundamental that you choose a broker that has little downtime on their platform due to technical issues, that is easy to use, a broker that has direct access to the market, known as of “meeting places” as well as other dark pools where large institutional orders are generally handled in order to minimize the impact on the market.
Indeed, leading execution sites today use algorithms to determine the best execution price for the client from their network of lighted sites and dark pools. This practice is not used by commission brokerages because their business model is to earn a commission by routing the order flow to market makers.
The aforementioned transaction market impact cost is an often overlooked aspect of trade execution, which for large orders or retail orders in low traffic markets such as the Malta Stock Exchange takes often the largest portion of the total cost of completing the transaction. Indeed, the less liquid a market, the more important it becomes to select the right place of execution.
Most international bonds, for example, do not trade on regulated exchanges, they are traded through brokers. In order to get the best price available, it is fundamental that your broker has access to a network of top brokers, usually through what is called multilateral trading facilities. This is especially true for high yield bonds, which have higher bid / ask spreads than investment grade bonds.
This discussion is strictly about best execution which remains the primary consideration. Secondary considerations include whether the broker offers research and its quality, as well as portfolio management services which, on some platforms, offer robotics advisory services to those who are comfortable enough to use them. Service considerations such as the quality of customer service and other related account fees such as custody fees, deposit fees, and any other superimposed fees should also be part of your decision-making process, as everything adds up.
Finally, a key consideration which is often overlooked and which is directly related to the cost of execution is the spread charged on foreign exchange trades. Often times we need to invest in foreign currency assets. Having a broker who charges low commissions but charges excessive forex spreads is counterproductive when considering the total fixed costs of a trade.
Disclaimer: This article was written by Simon Psaila, Investment Manager at Calamatta Cuschieri. The article is published by Calamatta Cuschieri Investment Services Ltd, which is licensed to carry out investment services activities under the Investment Services Act by the MFSA and is registered as a related insurance intermediary under the Insurance Distribution Act, 2018.
For more information, visit https://cc.com.mt. The information, views and opinions provided in this article are provided for educational and informational purposes only and should not be construed as investment advice, advice regarding particular investments or investment decisions, or tax advice. or legal.
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