IB - Getting paid to provide liquidity for options

[tonydiesel92]

Hi all,

I just stumbled upon the fact that you can be paid rebates for providing liquidity on IB and was curious if anyone here does this and can help me assess the pros and cons.

For background, I currently use Fidelity. After doing some initial research online, I've read Fidelity often provides better fills than IB - and I have received price improvements many times (although I hate that I often have to place orders in 5c increments for many option limit orders- does IB do this as well?)

However, given I buy/sell options often, this rebate structure could be impactful to my PnL. A couple questions I had:

1) I assume rebates are contingent on executing on a specific exchange(s). Is there a standard list of exchanges that always provide rebates for providing liquidity or does it change with each specific stock?

2) Clearly you'll suffer from best execution if executing on a specific exchange to capture the rebate as opposed to hitting the NBBO. Does anyone have experience if optimally receiving the rebates compensates for not executing on the NBBO?

3) To the above point, I can route my orders to specific option exchanges, but are there smart order routers available to retail to systematically optimize between best execution vs non-best exec + rebate? Or are brokers doing this smart order routing themselves when executing retail orders to take advantage of order flow / rebates themselves

Long time reader, first post - appreciate all the input in advance.

 

[Drawdown Addict]

These are the settings you can select on this topic through the Trading Work Station.
I don't use anything apart from the multipurpose one, so I can't tell how they work.
But there you have some specific names if you want to search for them.

 

[MoreLeverage]

Watch out for adverse selection when your option limit order fills as the underlying moves against you. Yes, the rebates are nice but fills are important too.

 

[Drawdown Addict]

Yeah, that is why I don't use any of that, I don't remember it well, but I think I tried to set it up and was sitting there for a few minutes to get an order filled. So I don't know if those options are too useful.

 

[Robert Morse]

Hi tonydiesel92- Welcome to Elite Trader. I work for Lightspeed Financial Services Group, Not IB and we are sponsors here on ET. We also offer the ability to direct your orders to different Option exchanges and be subject to their ADD/REMOVE schedules using several of our trading platforms. In addition, we have a smart route to avoid most of these fees on all but cash settled indexes. That can save money while removing. These are good questions. Some of my responses are factual and some are my opinion. #1. Yes. It changes based on if the option is part of the Penny pilot program or not. You can tell those because the OTM options trade in increments below $0.05. Some ETFs like SPY and all cash settled indexes like SPX are different. #2. Yes, you might not get an execution by posting a bid on the bid or ask on the ask. In addition, IMO, when you post on the option exchange with the highest rebate, order routers might go there last as the fees are higher for the other broker. And Yes, there are a few number of option exchanges with an inverse fee schedule. I see BOX and MRX, but if you route orders there to remove and there is no liquidity, there are route away fees you will get charged. There is little incentive for MM to place standing orders there. #3. Our SMART route is not configurable. It targets a DMM to save on cost.

Hi all,

I just stumbled upon the fact that you can be paid rebates for providing liquidity on IB and was curious if anyone here does this and can help me assess the pros and cons.

For background, I currently use Fidelity. After doing some initial research online, I've read Fidelity often provides better fills than IB - and I have received price improvements many times (although I hate that I often have to place orders in 5c increments for many option limit orders- does IB do this as well?)

However, given I buy/sell options often, this rebate structure could be impactful to my PnL. A couple questions I had:

1) I assume rebates are contingent on executing on a specific exchange(s). Is there a standard list of exchanges that always provide rebates for providing liquidity or does it change with each specific stock?

2) Clearly you'll suffer from best execution if executing on a specific exchange to capture the rebate as opposed to hitting the NBBO. Does anyone have experience if optimally receiving the rebates compensates for not executing on the NBBO?

3) To the above point, I can route my orders to specific option exchanges, but are there smart order routers available to retail to systematically optimize between best execution vs non-best exec + rebate? Or are brokers doing this smart order routing themselves when executing retail orders to take advantage of order flow / rebates themselves

Long time reader, first post - appreciate all the input in advance.

 

[tonydiesel92]

Appreciate all of the insight Robert, very valuable info.

I'll continue to take a look but I'm learning towards sticking with Fidelity as the added complexity of optimizing rebates just doesn't seem to outweigh the better execution.

I've also realized that IB has much more punitive margin requirements than Fidelity on naked options, which is arguably more critical for me / my capital allocation. Assume your firm also follows Reg T Margin - do you know how it stacks up to Fidelity house margin requirements?

Also, the ordering routing question really stemmed from the fact of getting better fills, especially around wider bid/ask markets (> 15c). Whenever I try to place an order within the bid/ask, the listed screens often instantly change (to my detriment of course). I need to do further research into option MM / microstructure.

I have found two things that help with execution though (1) executing multi-leg orders individually, and (2) executing in lots of non-round numbers (for example 46 contracts instead of 50), as those orders are potentially viewed as dumb money / retail just punting?

 

[TheDawn]

Hi all,

I just stumbled upon the fact that you can be paid rebates for providing liquidity on IB and was curious if anyone here does this and can help me assess the pros and cons.

For background, I currently use Fidelity. After doing some initial research online, I've read Fidelity often provides better fills than IB - and I have received price improvements many times (although I hate that I often have to place orders in 5c increments for many option limit orders- does IB do this as well?)

However, given I buy/sell options often, this rebate structure could be impactful to my PnL. A couple questions I had:

1) I assume rebates are contingent on executing on a specific exchange(s). Is there a standard list of exchanges that always provide rebates for providing liquidity or does it change with each specific stock?

2) Clearly you'll suffer from best execution if executing on a specific exchange to capture the rebate as opposed to hitting the NBBO. Does anyone have experience if optimally receiving the rebates compensates for not executing on the NBBO?

3) To the above point, I can route my orders to specific option exchanges, but are there smart order routers available to retail to systematically optimize between best execution vs non-best exec + rebate? Or are brokers doing this smart order routing themselves when executing retail orders to take advantage of order flow / rebates themselves

Long time reader, first post - appreciate all the input in advance.

I have done it before but it doesn't last long. Eventually IB will screw with your order to turn your limit order to a market order by holding your order on its server and not publishing it onto the exchange until the last minute to supposedly hit any price that's there and you end up getting charged the highest commission instead of getting rebates because your order just became a market order which is liquidity-taking. Usually when you want to get rebates by creating liquidity, you have to send your liquidity-providing limit orders directly to the exchanges that pay the highest rebates like BATS or MEMX or PSE not through the SMART order routing and you cannot use "Sweep to Fill" and you need to use "Post Only", but these same exchanges will also charge the highest commissions if you take liquidity so when your limit order gets turned into market orders by IB, you actually end up getting charged the highest commissions as well. Eventually you realize it's not worth it. All the rebates that you received just get all erased by the higher commissions.

I actually created several tickets calling IB out on their unscrupulous tactics but they don't give a s***. Consider yourself warned. IB will not allow you to make these rebates for the long term.

 

[tradegoodstocks]

I have done it before but it doesn't last long. Eventually IB will screw with your order to turn your limit order to a market order by holding your order on its server and not publishing it onto the exchange until the last minute to supposedly hit any price that's there and you end up getting charged the highest commission instead of getting rebates because your order just became a market order which is liquidity-taking. Usually when you want to get rebates by creating liquidity, you have to send your liquidity-providing limit orders directly to the exchanges that pay the highest rebates like BATS or MEMX or PSE not through the SMART order routing and you cannot use "Sweep to Fill" and you need to use "Post Only", but these same exchanges will also charge the highest commissions if you take liquidity so when your limit order gets turned into market orders by IB, you actually end up getting charged the highest commissions as well. Eventually you realize it's not worth it. All the rebates that you received just get all erased by the higher commissions.

I actually created several tickets calling IB out on their unscrupulous tactics but they don't give a s***. Consider yourself warned. IB will not allow you to make these rebates for the long term.

I may be wrong, but I think per regulation, brokers and market makers have to either fill internally, or post an order to an exchange within a short timeframe. (I forgot how the rules differ for marketable orders and non-marketable limit orders.) I doubt a broker as big as IB would violate this regulation systematically.

 

[tradegoodstocks]

Appreciate all of the insight Robert, very valuable info.

Also, the ordering routing question really stemmed from the fact of getting better fills, especially around wider bid/ask markets (> 15c). Whenever I try to place an order within the bid/ask, the listed screens often instantly change (to my detriment of course). I need to do further research into option MM / microstructure.

I have found two things that help with execution though (1) executing multi-leg orders individually, and (2) executing in lots of non-round numbers (for example 46 contracts instead of 50), as those orders are potentially viewed as dumb money / retail just punting?

Of course the real time quotes change when you submit an order, to reflect your order if it becomes the best bid or ask. I heard that options orders often get filled if your limit is at the midprice or one tick beyond the midprice. Have you tried that? It would assume that the midprice is the "fair" price. Perhaps for less liquid options you have to go a few cents further away from the midprice.

The odd lot orders behavior is an interesting one. It may be anecdotal, but for equities, I noticed that when I submit an odd lot order at the midprice or on "my side" off the midprice, it sometimes doesn't get front-run by another limit order, unlike when I submit a round lot order.

The multi-leg vs combo order is an interesting question. My understanding was the combo orders might generally get better executions, especially when the delta and/or other greeks fully or partially offset, for example box spreads in index options, as obviously the volatility of the combo is much lower.
Are you sure that your impression that single legs get better fills is not a fallacy, if the single legs got filled as the market and the "fair" midprice moved slightly against you? You might experience many small "improvements" due to small market moves (that you register as "improved" fills), with less frequent, but larger losses from "misses" when the market moves away from you.
I'm sure the more experienced options traders in this forum can chime in further.

 

[tradegoodstocks]

Hi all,

I just stumbled upon the fact that you can be paid rebates for providing liquidity on IB and was curious if anyone here does this and can help me assess the pros and cons.

For background, I currently use Fidelity. After doing some initial research online, I've read Fidelity often provides better fills than IB - and I have received price improvements many times (although I hate that I often have to place orders in 5c increments for many option limit orders- does IB do this as well?)

However, given I buy/sell options often, this rebate structure could be impactful to my PnL. A couple questions I had:

1) I assume rebates are contingent on executing on a specific exchange(s). Is there a standard list of exchanges that always provide rebates for providing liquidity or does it change with each specific stock?

2) Clearly you'll suffer from best execution if executing on a specific exchange to capture the rebate as opposed to hitting the NBBO. Does anyone have experience if optimally receiving the rebates compensates for not executing on the NBBO?

3) To the above point, I can route my orders to specific option exchanges, but are there smart order routers available to retail to systematically optimize between best execution vs non-best exec + rebate? Or are brokers doing this smart order routing themselves when executing retail orders to take advantage of order flow / rebates themselves

Long time reader, first post - appreciate all the input in advance.

Based on my own experience with equities trading, I came to the conclusion that unless you have a "real" justification for a specific limit based on fundamental or technical analysis, on average the all-in cost of a trade (including slippage and unfilled orders with the market moving away) is less with market orders than with limit orders, and for market orders it is less with zero commission brokers (Schwab, or zero commission plan at IB) than with commission based plans that route orders to exchanges. This is simply because the bulk of volume is filled off exchange, which means on exchanges your limit orders typically only get filled when the market moves against you. There are exceptions, like when I have a limited number of shares to trade, and I don't rely on my orders being filled i.e. I can wait a long time or even days, then limit orders on illiquid equities that don't move much might get better fills when another party is trying to dump shares hitting my limit orders, and I can pocket the exchange rebates. But in my experience this is the exception.
This is for equities. I don't know if options markets are principally different.