Brokerage Firm Best Execution Requirements

What is the FINRA Rule 5310 Best Execution Rule? 

FINRA Rule 5310 is a regulation created by the Financial Industry Regulatory Authority (FINRA) that governs best execution practices for broker-dealers.  FINRA is the self-regulator that oversees brokers and brokerage firms.

The SEC approved FINRA’s proposed rule change in March 2012 to adopt FINRA Rules 5310 (Best Execution and Interpositioning) and FINRA Rule 6438 (Displaying Priced Quotations in Multiple Quotation Mediums) in the consolidated rulebook. 

FINRA Rule 5310 is the consolidated rule governing members’ best execution requirements.  The Rule replaced NASD Rule 2320 which also deals with broker-dealers best execution requirements. 

Rule 5310 requires broker-dealers to use reasonable diligence to ensure that customer orders are executed at the best available price, taking into consideration all relevant factors, including the size and type of the transaction, the trading characteristics of the security, and the marketplace where the transaction occurs. 

National Best Bid and Offer (NBBO)

The best execution rule requires that broker-dealers make reasonable efforts to obtain the best price available for the customer’s order at the time of the transaction. This includes seeking to obtain price improvement, which is any price that is better than the National Best Bid and Offer (NBBO) at the time the order is placed. The rule also requires broker-dealers to regularly review and assess the quality of execution they are providing for their customers and to make any necessary adjustments to their practices. 

In addition to requiring best execution, FINRA Rule 5310 also prohibits broker-dealers from engaging in any activity that could interfere with the customer’s ability to receive the best execution possible. This includes preventing customers from accessing the NBBO or other market information, and engaging in any practices that could manipulate prices or create false or misleading market activity. 

FINRA Rule 5310 is intended to ensure that broker-dealers act in the best interests of their customers and provide them with the best possible execution for their orders. By requiring broker-dealers to use reasonable diligence to obtain the best available price for their customers, the rule helps to promote fair and transparent markets and protect investors from unfair or deceptive practices. 

NASD Rule 2320 

The primary update to FINRA Rule 5310 (from NASD Rule 2320) appears to deal with securities with limited quotation or pricing information available, foreign securities, customer instructions on routing orders, and regular and rigorous review of execution quality. FINRA Rules 5310 and 6438 became effective on May 31, 2012. 

Best Execution Rule and Margin Trading 

Best Execution requirements can be particularly important in the margin context because it helps ensure that investors receive the most favorable execution price for their trades. When trading on margin, individuals are borrowing money from their broker to increase their purchasing power, which means that they will incur interest charges on the borrowed funds. 

If a broker does not execute trades at the best possible price, the individual trading on margin may end up paying more for a security than they would have if the trade had been executed at a better price. This could result in higher borrowing costs, as well as potential losses on the investment. 

By following the best execution rule, brokers are required to take all reasonable steps to ensure that trades are executed at the best possible price, considering factors such as market conditions, liquidity, and the size of the order. This helps to protect the interests of individuals trading on margin by ensuring that they receive the most favorable execution price possible. 

The best execution rule helps to promote fair and transparent trading practices, which are essential for maintaining investor confidence and protecting the integrity of the financial markets.

FINRA Rule 5310 reads as follows: 

“(a)(1) In any transaction for or with a customer or a customer of another broker-dealer, a member and persons associated with a member shall use reasonable diligence to ascertain the best market for the subject security and buy or sell in such market so that the resultant price to the customer is as favorable as possible under prevailing market conditions. Among the factors that will be considered in determining whether a member has used “reasonable diligence” are: 

(A) the character of the market for the security (e.g., price, volatility, relative liquidity, and pressure on available communications); 

(B) the size and type of transaction; 

(C) the number of markets checked; 

(D) accessibility of the quotation; and 

(E) the terms and conditions of the order which result in the transaction, as communicated to the member and persons associated with the member. 

(2) In any transaction for or with a customer or a customer of another broker-dealer, no member or person associated with a member shall interject a third party between the member and the best market for the subject security in a manner inconsistent with paragraph (a)(1) of this Rule. 

(b) When a member cannot execute directly with a market but must employ a broker’s broker or some other means in order to ensure an execution advantageous to the customer, the burden of showing the acceptable circumstances for doing so is on the member. 

(c) Failure to maintain or adequately staff an over-the-counter order room or other department assigned to execute customers’ orders cannot be considered justification for executing away from the best available market; nor can channeling orders through a third party as described above as reciprocation for service or business operate to relieve a member of its obligations under this Rule. 

(d) A member through which an order is channeled and that knowingly is a party to an arrangement whereby the initiating member has not fulfilled its obligations under this Rule, will also be deemed to have violated this Rule. 

(e) The obligations described in paragraphs (a) through (d) above exist not only where the member acts as agent for the account of its customer but also where transactions are executed as principal. Such obligations are distinct from the reasonableness of commission rates, markups or markdowns, which are governed by NASD Rule 2440 and IM-2440.” 

Hiring a Securities Attorney 

Often times brokerage firms haphazardly sell positions in a client’s account to meet margin calls and compound the losses suffered by the client.  In such instances, the brokerage firm may be liable for such damages because of its failure to meet the best execution requirements. 

If you believe that your brokerage firm failed to meet the generally accepted standard of care with respect to best execution, the securities attorneys of The White Law Group may be able to help. 

The White Law Group, LLC is a national securities fraud, securities arbitration, investor protection, and securities regulation/compliance law firm with offices in Chicago, Illinois and Seattle, Washington. 

For more information on The White Law Group, visit http://whitesecuritieslaw.com.