Like it or loathe it payment for order flow in its various
forms was unceremoniously outlawed in no-uncertain terms on
Thursday though it will have come as little surprise to
The Financial Conduct Authority said as long ago as 2012
that it had a serious problem with PFOF (as it has become
known) and it made no secret of the fact it was running a major
probe into whether banks and brokers were seeking to circumvent
the rules that were in place.
FOW reported weeks ago that the FCA was preparing a damning
ruling on pay for flow and this would come before the end of
this month and, sure enough, the regulator duly obliged by
releasing a Thematic Review that clarified its position on the
last day of July.
It does not make good reading for the various banks and
brokers who have for years made a nice little earner out of
taking payment from market-makers for the orders they produced
on behalf of their clients.
The prohibition of PFOF looks to be a done deal and that is
that … but the move by the FCA does raise some
interesting questions about other types of payment for orders,
not least the types of incentives and rebates that exchanges
offer their clients.
This has in recent years become a moot point among
exchanges, some of which claim rebates create a false picture
of liquidity while others argue it is standard practice for a
The prohibition of payment to brokers by market-makers will
hit their profits but the extension of a ban on payment for
order flow by exchanges could have some more far-reaching
Firstly, exchange payment for order flow is a key incentive
provided by new markets to ensure the crucial backing of
market-makers and brokers in their early weeks and months.
Banning it would seriously affect firms’
willingness to support nascent markets and could, ultimately,
stifle innovation and competition, something that goes against
some of the core principles of the European
Union’s Markets in Financial Instruments Directive
which is, in spirit at least, very much pro-competition.
The prohibition of exchange order flow could also force some
market-makers and brokers out of the market which would mean
fewer brokerage options for clients so less competition (again)
and lower levels of liquidity.
The FCA may be sure that it has got it right with this
iteration of PFOF (and who am I to say they are wrong?) but
they should think twice about the dreaded unexpected
consequences of regulation before they extend the ban to
The PFOF ban may have marked a bad week for futures brokers
but things are little better in the over-the-counter market
where the world’s inter-dealer brokers are
similarly having a tough time.
GFI, at least, had a good week. The $580m they got for
Trayport and Fenics from CME Group looks like a big number but
one has to fear for the long-time viability of the IDB.
As the tech units were being spun-off to the Merc, GFI
senior management bought out the rest of GFI (namely the
brokerage bits and execution platforms) for just $165m, so less
than a third of what CME paid for GFI’s tech
Separately, RP Martin, a smaller IDB that hit the headlines
in recent years for Libor-rigging and one of its brokers being
shot in a carpark, has been forced to put itself up for
Regulators, no doubt, are sure they are doing the right
thing but they should perhaps bear in mind that the brokers
they are seeking to bring in line are already struggling to
stay afloat amid treacherous market conditions.
That said, if the regulators want a market comprising a
handful of "too-big-to-fail" financial groups then they should
just go right ahead.