SEC Execution Quality Rules
In 2001, the Securities and Exchange Commission (SEC) adopted rules requiring market centers, including brokerage firms, to report on the execution quality and handling of its brokerage operations retail order flow.
SEC Rule 11ac1-5 and Rule 11ac1-6 are the two primary rules that set the standards for reporting to the public. Option trades were originally excluded from this reporting, but exchanges do need to report any trades not executed at the National Best Bid or Offer (NBBO).
SEC 11ac1-5 provides a monthly report on a variety of speed and execution measurements for all orders (collectively) covered by the rule, which includes covers retail orders for market and marketable limit orders that are received during regular trading hours, and specifically excludes orders with special handling requirements.
SEC 11ac1-6 is a quarterly reporting identifying where the brokerage firm sent its covered order flow, along with any material relationships the firm has with that market venue (that is, any payment it receives from an exchange for its orders).
Execution quality reporting focuses on two key elements: how close to the NBBO your order was executed and how long it took. The NBBO measurement is calculated using the effective to quoted spread (E/Q%), which is equal to 1.00 or 100 percent when your order is executed at the midpoint of the NBBO spread. An E/Q% of 98 percent indicates a trade that was executed at a price better than the NBBO (price improvement), whereas an E/Q% of 105 percent indicates a trade that was executed at a price that was worse than the NBBO (price disimprovement).
The time for order completion begins when the market center receives your order (the trading department acting as market maker or specialist if your brokerage firm completes that portion of the transaction). The time measurement ends when the order is executed in the marketplace, not when you receive the trade report back via the web or your broker.
The SEC requirements are specific, but there are enough vagaries for firms to highlight their strengths and down play their weaknesses. You may find firms using best-ex reporting (referring to best exchange) as part of their marketing campaigns.
Because order flow routing information provides summary information rather than specific order details, the results you experience on your order execution may seem vastly different from what you see reported from 1-5, 1-6, or marketing literature.