Understanding Payment for Order Flow (PFOF) in Stock Trading

"Payment for order flow" is a term that might come up with your stockbroker. Here are the basics of payment for order flow and what it means to you.

Payment for Order Flow

Payment for order flow is a payment that is made to a broker in order to compensate him or her for sending trades to another broker. For example, a broker might receive one cent per share that is purchased in return for passing a trade along to another broker. This is basically like a referral fee or commission.

Small Brokers

Many small brokers will pass trades on to larger brokers regularly. This is done when the order volume that they have is greater than what they can handle. Instead of rejecting the trades, they will simply pass them onto a larger broker that can handle the volume. In return for passing on a trade, a larger broker gives a smaller broker an incentive. The larger broker gets the benefit of the extra volume, and the smaller broker gets some compensation.

Notification

According to the SEC (Securities and Exchange Commission), your broker must notify you whenever this is taking place. Your broker will tell you when you open your account with him or her, and this will also be recorded on your annual statement. Therefore, you will know when it is taking place with your orders.