The price at which you buy or sell shares may vary according to the broker’s buying power. When, as a buyer or seller, you ask your online broker for a share price, it will relay the request electronically to the retail service provider (RSP), which is the interface between retail brokers and equity markets.
The RSP will send back the best price it will have determined, with reference to the SETS (Stock Exchange Electronic Trading Service) or SETSmm or to the market makers, mainly through the SEAQ (Stock Exchange Automated Quotation) system. We will look at how these systems work.
The RSP is itself a market maker in some stocks up to a size limit, beyond which it will refer the trade to its own market makers, which provide a service in both quote-driven and order-book securities. Brokers choose how many RSPs they poll; it could be three or it could be a dozen.
The broker may contact several RSPs simultaneously for quotes, and relay only the most competitive one to the client. But some brokers rotate RSPs in turn on the basis of one per deal, which may not achieve so competitive a result. Some brokers may obtain a quote in a deal size other than that requested by the customer. The point to grasp here is that brokers may use different ways to obtain prices from RSPs and the prices may be different. The results may not be equally to your advantage as a trader.
Direct market access
Regular traders of large stocks have good reason to prefer DMA (direct market access) to the RSP route. This way, like the brokers themselves, they make an entry directly onto the LSE order book. It is the only way to place a limit order – specifying the maximum price at which you will deal – that is visible in the market.
If you are to take the DMA route, you must be classified as an intermediate customer (from November 2007, professional), which means you will forego some of the regulatory protection given to private customers (from November 2007, retail) and you will have to demonstrate that you are a sufficiently sophisticated investor for this.
DMA cuts out the use of a market maker or RSP. You need not worry about the market maker’s size limitation. You can put in an order to buy at bid price or below, for as many shares as you want. You will be trading like a market maker yourself. The LSE takes the view that the price improvement obtained offsets by a significant margin the extra cost involved, but some day traders are not convinced.
At the time of writing, iDealing (www.idealing.com) prominently offers DMA, but the vast majority of stockbrokers do not (except through CFDs). ‘So far, traders do not know much about DMA but they will be interested once they realize it helps you get a better price,’ says Dickinson at Barclays Stockbrokers.
In the long term, Rawlings at Hargreaves Lansdown foresees a shift from the RSP to the DMA model. In the short term, he believes that many brokers will soon start offering DMA but it will appeal only to the higher end of the active trader market. ‘Whether most are interested in DMA on equities now is questionable because they trade CFDs or spread bets,’ he says. Oldham at the Share Centre calls DMA stillborn. ‘DMA has a zonking great charge, which will not be borne by the broker, and the investor would end up paying several pounds a trade, which is as much as the commission.’
DSA (direct strategic access), where the RSP passes unfulfilled limit orders to the LSE order book, has greater growth potential, according to Oldham.
