Best Execution
Best execution is the obligation of broker-dealers to execute customer orders at the most favorable terms reasonably available under the circumstances, considering price, speed, and likelihood of execution.
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Exam Tip
Best execution = broker must get best OVERALL terms, not just price. Consider speed, size, likelihood. It's an obligation!
What is Best Execution?
Best execution is a regulatory requirement that broker-dealers must seek the most advantageous terms for customer orders. This doesn't necessarily mean the absolute best price, but rather the best overall execution considering multiple factors.
Best Execution Factors
| Factor | Description |
|---|---|
| Price | The execution price relative to market |
| Speed | How quickly the order is filled |
| Size | Ability to fill the entire order |
| Likelihood | Probability of successful execution |
| Cost | Commission and other transaction costs |
Regulatory Framework
| Regulator | Requirement |
|---|---|
| SEC Rule 606 | Quarterly routing reports disclosure |
| FINRA Rule 5310 | Best execution obligation |
| NMS Rule 611 | Order protection rule |
Order Routing Considerations
When routing orders, broker-dealers evaluate:
| Consideration | What It Means |
|---|---|
| Market Center | Which exchange or venue to use |
| Rebates/Fees | Payment for order flow considerations |
| Execution Quality | Historical fill rates and price improvement |
| Market Conditions | Volatility, liquidity, spread |
Best Execution vs. Payment for Order Flow
| Aspect | Best Execution | PFOF |
|---|---|---|
| Focus | Customer benefit | Revenue for broker |
| Requirement | Mandatory obligation | Permitted practice |
| Disclosure | Required | Required |
| Potential Conflict | Must prioritize customer | May create conflicts |
Documenting Best Execution
Broker-dealers must:
- Conduct regular reviews of execution quality
- Compare results across market venues
- Document decision-making process
- Update routing policies as needed
Common Violations
| Violation | Example |
|---|---|
| Price | Executing at worse price than available |
| Delay | Unreasonable delay in execution |
| Routing | Routing based on rebates vs. quality |
| Documentation | Failure to review execution quality |
Study This Term In
Related Terms
Market Maker
A market maker is a broker-dealer firm that stands ready to buy and sell a particular security at publicly quoted prices, providing liquidity to the market by maintaining bid and ask prices throughout the trading day.
Market Order
A market order is an instruction to buy or sell a security immediately at the best available current price, guaranteeing execution but not the price.
Limit Order
A limit order is an instruction to buy or sell a security at a specified price or better, guaranteeing the price but not guaranteeing execution.
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