Payment for order flow (PFOF)

PFOF sits at the centre of a loud debate, and the loudness has outrun the mechanics. The mechanics: retail orders are valuable to market makers, because retail traders are on average uninformed — they are not trading on information the market maker is about to regret. A market maker can therefore quote them tighter spreads and still profit, and it pays brokers to route those orders its way. The broker’s commission line goes to zero; the market maker’s spread income replaces it.

The honest question is not whether the arrangement sounds comfortable. It is whether the payments make executions worse. That is measurable, and the best available measurement — a controlled study placing identical orders through multiple brokers simultaneously — found execution quality varied enormously between brokers while the PFOF payments themselves were far too small to explain the variation. What did explain it: who else uses your broker, because market makers price the whole flow, not your individual order. The article below covers the study, the numbers, and the practical conclusion.

Regulatory status differs by jurisdiction — PFOF for equities is banned in the EU (with transition periods), while the US regulates it through best-execution and disclosure rules. Where the practice is banned, spreads do not automatically get better; the cost moves, it does not vanish.