Understanding Best Execution
What does "best execution" really mean in forex trading? Learn how brokers interpret this obligation and what factors they consider.
## The Legal Foundation <HighlightText variant="yellow">Best execution</HighlightText> is a regulatory requirement that originated with MiFID (Markets in Financial Instruments Directive) in Europe and has been adopted in various forms globally. It requires brokers to take "all sufficient steps" to obtain the best possible result for their clients. But what does "best possible result" actually mean? ## Beyond Just Price Many traders assume best execution simply means getting the best price. In reality, it's more nuanced: ### The Five Execution Factors Regulators typically identify five key factors: 1. **Price** - The quoted rate for the currency pair 2. **Cost** - Spreads, commissions, and other fees 3. **Speed** - How quickly the order is executed 4. **Likelihood of Execution** - Probability the order will fill 5. **Likelihood of Settlement** - Probability the trade will settle properly <MarginNote>Different order types may prioritize different factors. A market order prioritizes speed and likelihood of execution, while a limit order prioritizes price.</MarginNote> ## How Brokers Define Best Execution In their execution policies, brokers must explain: - Which factors they consider most important - How they weight these factors - What steps they take to achieve best execution - How they monitor and prove best execution ### Market Makers vs. ECN/STP The broker's execution model significantly affects their best execution approach: **Market Maker Approach:** - May offer fixed spreads for price certainty - Emphasizes speed and execution certainty - Controls the entire execution process internally **ECN/STP Approach:** - Aggregates prices from multiple liquidity providers - May offer variable spreads reflecting market conditions - Passes orders to external venues Neither is inherently better—they simply prioritize different factors. ## The "Sufficient Steps" Requirement Brokers must take "all sufficient steps" to achieve best execution. This typically includes: ### Order Routing Logic Brokers should have documented procedures for: - How they select execution venues or liquidity providers - How they aggregate prices from multiple sources - How they handle different order types and sizes - How they route orders during normal vs. abnormal market conditions ### Monitoring and Review <HighlightText variant="blue">Best execution is an ongoing obligation</HighlightText>, not a one-time setup. Brokers should: - Regularly monitor execution quality - Review their routing arrangements - Make adjustments when performance slips - Publish execution quality reports (in some jurisdictions) ## What Best Execution Doesn't Mean It's important to understand the limits of best execution: ### It's Not a Guarantee Best execution is an **obligation to try**, not a guarantee of outcome. Brokers must make reasonable efforts but aren't liable for every instance of sub-optimal execution. ### It's Not Always the Tightest Spread A slightly wider spread with guaranteed execution may constitute better execution than a tight spread with frequent rejections. ### It Doesn't Require Checking Every Venue Brokers aren't required to check every possible liquidity provider for every order. They must maintain a reasonable selection of venues and route intelligently. ## Questions to Ask Your Broker When evaluating a broker's best execution commitment: 1. What execution factors do you prioritize for retail forex trades? 2. How many liquidity providers do you use? 3. Do you use last look? If so, why? 4. How do you monitor execution quality? 5. Can I see execution quality statistics? 6. What happens during volatile markets or news events? ## Red Flags in Best Execution Policies Watch out for policies that: - State best execution is "on a best efforts basis" without specifics - Give the broker unlimited discretion without transparency - Don't explain how they weight execution factors - Lack any monitoring or review process - Disclaim responsibility for execution quality entirely ## The Bottom Line Best execution is a nuanced concept that goes beyond simple price comparison. Understanding how your broker interprets and implements this obligation is essential for informed trading decisions. The most transparent brokers will: - Clearly define their execution factors and priorities - Explain their order routing logic - Monitor and report on execution quality - Continuously work to improve execution outcomes