What is an ‘Execution’
Execution is the completion of a buy or sell order for a security. The execution of an order occurs when it gets filled, not when the investor places it. When the investor submits the trade, it is sent to a broker, who then determines the best way for it to be executed.
BREAKING DOWN ‘Execution’
Brokers are required by law to give investors the best execution possible. The Securities and Exchange Commission (SEC) requires brokers to report the quality of their executions on a stock by stock basis as well as notifying customers who did not have their orders routed for best execution. The cost of executing trades has significantly reduced due to the growth of online brokers. Many brokers offer their customers a commission rebate if they execute a certain amount of trades or dollar value per month. This is particularly important for short-term traders where execution costs need to be kept as low as possible.
How Orders get Executed
- Order to the Floor: This can be time-consuming because a human trader processes the transaction. The floor broker needs to receive the order and fill it.
- Order to Market Maker: On exchanges such as the Nasdaq, market makers are responsible for providing liquidity. The investor’s broker may direct the trade to one of these market makers for execution.
- Electronic Communications Network (ECN): An efficient method, whereby computer systems electronically match up buy and sell orders.
- Internalization: If the broker holds an inventory of the stock in question, it may decide to execute the order in-house. Broking firms refer to this as an internal crossing.
Execution and Dark Pools
Dark Pools are private exchanges or forums that are designed to help institutional investors execute their large orders by not disclosing their quantity. Because dark pools are primarily used by institutions, it is often easier finding liquidity to execute a block trade at a better price than if it was executed on a public exchange, such as the Nasdaq or New York Stock Exchange. If an institutional trader places a sizable order on a public exchange, it is visible in the order book and other investors may discover that there is a large buy or sell order getting executed which could push the price of the stock lower.
Most dark pools also offer execution at the mid-point of the bid and ask price which helps brokers achieve the best possible execution for their customers. For example, if a stock’s bid price was $100 and the asking price was $101, a market order could get executed at $100.50 if there was a seller at that price in the dark pool. Main street is generally skeptical of dark pools due to their lack of transparency and lack of access to retail investors. (To learn more, see: An Introduction to Dark Pools.)