TD Ameritrade’s handling of stock trades is the subject of a recent class-action lawsuit.
By
Cezary Podkul
Sept. 21, 2018 3:54 p.m. ET
Mom-and-pop investors who think their brokers are prioritizing high-frequency traders over them may soon have a chance to try to prove their case in court.
A federal judge in Nebraska this month ruled a class-action lawsuit could proceed againstTD Ameritrade Holding Corp. AMTD -1.09% , one of the nation’s largest discount brokerages. In his ruling, the judge cited “serious and credible allegations of securities fraud” stemming from the company’s order routing practices.
The TD Ameritrade customers who brought the suit alleged the company, which provides investing and trading services for 11 million client accounts, prioritized its profits over their best interests. They claim it did so by accepting incentives from stock exchanges and large electronic trading firms to route customer orders to them without ensuring the customers would get the best prices available – an obligation that along with related factors is known as “best execution.”
A spokeswoman for TD Ameritrade said the company disagrees with the judge and will appeal his ruling.
Judge Joseph Bataillon’s ruling, delivered Sept. 14 in federal court in Omaha, Neb., marks the first time a court has allowed customers to pursue a class-action lawsuit on the grounds a retail brokerage breached its duty to provide best execution, according to the ruling and the plaintiffs’ attorneys.
The decision comes at a time of growing focus on how brokerages handle customer orders. In its Oct. 2017 blueprint for streamlining financial regulations, the U.S. Treasury Department said it is concerned payments to brokerages “may create misaligned incentives” for brokers and their customers. It urged the Securities and Exchange Commission to boost regulation of such payments and require more disclosure.
In March, the SEC proposed a study that would impose temporary restrictions on stock exchanges’ fee and rebate payments and measure the impact on order routing behavior and trade execution quality. On Wednesday, an SEC commissioner called on the agency to move ahead with the study and faulted it for not doing more to ensure transparency and fairness in the stock market.
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In its latest quarterly report, TD Ameritrade said “certain regulatory authorities are conducting examinations and investigations regarding the routing of client orders.” The firm collected $320 million from order-routing incentives in the 12 months ended Sept. 2017, according to a regulatory filing.
There is no prohibition on brokerages accepting such incentives. Large electronic trading firms such as Citadel Securities, Virtu Financial and Two Sigma Securities often pay brokers, like TD Ameritrade, Charles Schwab Corp. SCHW -0.44% and E*Trade FinancialCorp. to send them their clients’ trades for execution, an incentive known as payment for order flow. The New York Stock Exchange, Nasdaq Inc. and other exchanges provide their own incentives for order routing, known as rebates.
Proponents of such payments say investors get a better deal when brokers route orders to high-speed traders for execution and that any payments brokerages receive can be used to lower transaction costs.
“The execution cost is as low as it’s ever been, in fact it’s approaching zero,” said Richard Repetto, an analyst at Sandler O’Neill + Partners, L.P.
Still, accepting incentives for order flow has sparked a flurry of litigation in recent years. Charles Schwab and E*Trade are facing lawsuits seeking class-action status on similar grounds as the TD Ameritrade case. Spokespeople for the firms did’t immediately provide comment.
The U.S. Treasury Department has expressed concern about rebate payments from stock exchanges. PHOTO: PABLO MARTINEZ MONSIVAIS/ASSOCIATED PRESS
Amid controversy surrounding the practice, one large brokerage – Fidelity Investments – decided to stop accepting payments for its customers’ order flow in 2015. A Fidelity spokesman said that by not accepting such payments, Fidelity can offer its customers the best available prices on trades.
Critics have long argued that the incentives hurt retail and institutional investors by giving brokers a reason to send trades to venues that give them the most money, as opposed achieving what is best for the investor.
“Are they routing orders in ways that give their customers the best prices, or make them the biggest profits?” said Tyler Gellasch, executive director of the Healthy Markets Association, which is critical of rebates.
The legal action against TD Ameritrade has its roots in a June 2014 Congressional hearing when a senior TD Ameritrade executive said the firm almost always routed customer orders to markets that paid it the most money. Former Sen. Carl Levin (D., Mich.) said at the hearing he found that practice to be a “pretty incredible coincidence” and questioned whether the firm in fact provided best execution to its clients.
TD Ameritrade said after the hearing that it takes its best execution duties “very seriously” and makes it the “top priority” when routing clients’ orders.
Some academic research has found incentives for order flow may complicate brokers’ ability to obtain best executions for their clients. A 2013 study by finance professors at the University of Notre Dame and Indiana University found that TD Ameritrade and three of its competitors routed orders in a manner that seemed to maximize such payments, and that such behavior hurt their ability to obtain best execution for clients.
The study, also cited by plaintiffs, concluded that brokers who seek to maximize incentive payments and customer best execution “cannot have it all.”
By
Cezary Podkul
Sept. 21, 2018 3:54 p.m. ET
Mom-and-pop investors who think their brokers are prioritizing high-frequency traders over them may soon have a chance to try to prove their case in court.
A federal judge in Nebraska this month ruled a class-action lawsuit could proceed againstTD Ameritrade Holding Corp. AMTD -1.09% , one of the nation’s largest discount brokerages. In his ruling, the judge cited “serious and credible allegations of securities fraud” stemming from the company’s order routing practices.
The TD Ameritrade customers who brought the suit alleged the company, which provides investing and trading services for 11 million client accounts, prioritized its profits over their best interests. They claim it did so by accepting incentives from stock exchanges and large electronic trading firms to route customer orders to them without ensuring the customers would get the best prices available – an obligation that along with related factors is known as “best execution.”
A spokeswoman for TD Ameritrade said the company disagrees with the judge and will appeal his ruling.
Judge Joseph Bataillon’s ruling, delivered Sept. 14 in federal court in Omaha, Neb., marks the first time a court has allowed customers to pursue a class-action lawsuit on the grounds a retail brokerage breached its duty to provide best execution, according to the ruling and the plaintiffs’ attorneys.
The decision comes at a time of growing focus on how brokerages handle customer orders. In its Oct. 2017 blueprint for streamlining financial regulations, the U.S. Treasury Department said it is concerned payments to brokerages “may create misaligned incentives” for brokers and their customers. It urged the Securities and Exchange Commission to boost regulation of such payments and require more disclosure.
In March, the SEC proposed a study that would impose temporary restrictions on stock exchanges’ fee and rebate payments and measure the impact on order routing behavior and trade execution quality. On Wednesday, an SEC commissioner called on the agency to move ahead with the study and faulted it for not doing more to ensure transparency and fairness in the stock market.
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In its latest quarterly report, TD Ameritrade said “certain regulatory authorities are conducting examinations and investigations regarding the routing of client orders.” The firm collected $320 million from order-routing incentives in the 12 months ended Sept. 2017, according to a regulatory filing.
There is no prohibition on brokerages accepting such incentives. Large electronic trading firms such as Citadel Securities, Virtu Financial and Two Sigma Securities often pay brokers, like TD Ameritrade, Charles Schwab Corp. SCHW -0.44% and E*Trade FinancialCorp. to send them their clients’ trades for execution, an incentive known as payment for order flow. The New York Stock Exchange, Nasdaq Inc. and other exchanges provide their own incentives for order routing, known as rebates.
Proponents of such payments say investors get a better deal when brokers route orders to high-speed traders for execution and that any payments brokerages receive can be used to lower transaction costs.
“The execution cost is as low as it’s ever been, in fact it’s approaching zero,” said Richard Repetto, an analyst at Sandler O’Neill + Partners, L.P.
Still, accepting incentives for order flow has sparked a flurry of litigation in recent years. Charles Schwab and E*Trade are facing lawsuits seeking class-action status on similar grounds as the TD Ameritrade case. Spokespeople for the firms did’t immediately provide comment.
The U.S. Treasury Department has expressed concern about rebate payments from stock exchanges. PHOTO: PABLO MARTINEZ MONSIVAIS/ASSOCIATED PRESS
Amid controversy surrounding the practice, one large brokerage – Fidelity Investments – decided to stop accepting payments for its customers’ order flow in 2015. A Fidelity spokesman said that by not accepting such payments, Fidelity can offer its customers the best available prices on trades.
Critics have long argued that the incentives hurt retail and institutional investors by giving brokers a reason to send trades to venues that give them the most money, as opposed achieving what is best for the investor.
“Are they routing orders in ways that give their customers the best prices, or make them the biggest profits?” said Tyler Gellasch, executive director of the Healthy Markets Association, which is critical of rebates.
The legal action against TD Ameritrade has its roots in a June 2014 Congressional hearing when a senior TD Ameritrade executive said the firm almost always routed customer orders to markets that paid it the most money. Former Sen. Carl Levin (D., Mich.) said at the hearing he found that practice to be a “pretty incredible coincidence” and questioned whether the firm in fact provided best execution to its clients.
TD Ameritrade said after the hearing that it takes its best execution duties “very seriously” and makes it the “top priority” when routing clients’ orders.
Some academic research has found incentives for order flow may complicate brokers’ ability to obtain best executions for their clients. A 2013 study by finance professors at the University of Notre Dame and Indiana University found that TD Ameritrade and three of its competitors routed orders in a manner that seemed to maximize such payments, and that such behavior hurt their ability to obtain best execution for clients.
The study, also cited by plaintiffs, concluded that brokers who seek to maximize incentive payments and customer best execution “cannot have it all.”
