Trade Republic and Payment for Order Flow (PFOF)

" The federal minimum wage is a paltry $7.25 an hour, but in 18 states servers, bussers, and hosts are paid just $2.13—less than the price of a Big Mac. This is known as the federal “tipped minimum wage” because, in theory, these food workers will make up the difference in tips."

This is just wrong. Abusive behaviour in it’s finest. That article on amazon… It’s just not right.

I agree with the point that a business model where tips are the cornerstone doesn’t inspire much confidence. What if I, an individual, want to make a small contribution without expecting anything in return for it? What can I do? Back in the day, when Fretrade’s instant orders were £1 and Basic orders were the only free option, I could make a contribution by placing the occasional instant order and could feel I was giving something in return for the bargain I was getting. Tips may be a way for me to do something like that. It’s not the best way to do it? Ok. Maybe one day something shows up. Nowadays there’s no £1 instant orders, but there’s premium accounts… what if I want to gift £10 to the company this year?

I couldn’t agree more. It looks like a marketing ploy. It smells like a marketing ploy…

Nothing to object here either. Quite the opposite.

Here’s how I look at PFOF.

Let’s make a few assumptions. I’m going to keep the example as simple as I can for the sake of fluidity. Real life is more colourful and different scenarios may be added and are welcome. Freetrade’s case is absent.

A person wants to invest in the stock market. Let’s call that person Freebie.

He’s looking at different brokers and is undecided between two.

The first one we can call BrokerFlow and the second CommissionTrade.

BrokerFlow offers commission free trading and receives PFOF. It discloses it for its costumers.

CommissionTrade charges £10 per order.

Lets forget FX fees and stamp duty to keep it simple.

Is there any situation where BrokerFlow gives more value to Freebie than CommissionTrade?

Let’s imagine the following.

Total cost of a trade inclusive of commissions: £100

Price per share: £0.10 with the bid and ask prices going up and down around that figure.

Orders are executed at the same time.

Because CommisionTrade charges £10 per order Freebie’s purchasing power would be £90. He would get, for the sake of simplicity, 900 shares.

BrokerFlow gets PFOF. How many shares will Freebie get? If Freebie gets less than 900 shares, then its good to forget about PFOF reliant brokers. If he gets the same, what’s the point then? If Freebie gets more than 900 shares then there’s a case for PFOF.

In a scenario like this one the commision fee we get from CommissionTrade amounts to 10% of the total. I find it very hard to believe that the PFOF execution is beaten by an execution with a 10% amputation. There will be, however, a point where they match. And beyond that point CommisionTrade will be unquestionably a better deal for Freebie.

I am very interested in finding that sweet spot. I find it hard to believe it to be bellow £100 per trade, or £200 even. I think this is the key to solve the puzzle. It can’t be only on principle. A bit of pragmatism also has its place.

Makes sense?!

At surface PFOF does seem wrong. But I’m convinced there are circumstances where it can be useful for wallets of the smaller size.

Hence:

  1. PFOF should be an allowed option.
  2. Those brokers whose business model rely partially or totally on PFOF should disclosed in a clear easily accessible manner: mandatory disclosure.

Ok. The pieces I’ve read on Public.com refer them as being New York based… I assumed Denmark was a second office. But it makes sense the other way around

yup. And now that they got rid of PFOF they might find it easier to get to the UK than RH did

An interview interview with Charlie Munger including his thoughts on pfof

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Financial Times - Zero-commission trading in Europe faces scrutiny by EU markets watchdog

Christian Hecker, co-founder of Trade Republic, said it earned money from payments for order flow. But he said the platform, which is reported to have more than 600,000 customers, guaranteed its customers prices in line with the spreads offered by the exchange, Deutsche Börse.

“Trade Republic is certain that the way we are using [payment for order flow] is to the benefit of our customer,” said Hecker.

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