Investor's Guide to placing stock orders (part 4)
Selecting an Exchange

Many investors are unaware that they can specify the exchange to which their orders will be routed. An actively traded NYSE stock will also trade on the regional U.S.  exchanges such as the Pacific, Midwest, Philadelphia, Boston, and Cincinnati exchanges, in addition to trading via NASDAQ and in foreign countries. There are special systems designed for institutional investors such as Instinet, Posit, and the Arizona Stock Exchange. You as an investor can request that your order be routed to the exchange of your choice, although not all brokerage firms will be eager to accommodate you.

Does it make a difference which exchange gets your order? The answer is not clear. If you do not specify the exchange to which you want your order sent, then the brokerage firm will decide for you. The confirmation slip that you receive from your brokerage firm usually indicates where the order was executed.

Many exchanges and off-exchange market makers have started paying rebates of around one penny per share to brokerage firms that route their orders to them. Thus, brokerage firms may be influenced by factors other than which exchange will give you the best fill for your order.

For market orders, your broker will route the order to the exchange or off-exchange market maker that is either posting the best price, or else promising to meet the best posted price. Since all of the quotes from the different exchanges are available through the Intermarket Trading System (ITS), it is easy to find out where the best quotes can be found.

Many regional exchanges promise to match the NYSE-listed bid and ask quotes. However, the quotes themselves, which are posted by the specialists on the exchanges, do not tell the whole story. Often there may be a hidden limit order at the NYSE in between the quotes that you may be able to hit; the NYSE specialist may not wish to reflect this order as his quote since it may be for a smaller size than the specialist is willing to show. (In general, about a third of the volume in NYSE-listed stocks takes place at prices in between the bid and ask quotes.)

For this reason, your best bet is to send your market orders to the NYSE if the bid-ask spread is wider than one tick, since there is a better chance to get a better price than the quote on the NYSE than elsewhere. If the spread is one tick, then it probably does not make any difference and you can let your brokerage firm route the order wherever it pleases.

For limit orders, the question of exchange selection is even murkier. The NYSE generally has higher order flow and thus more of a chance that your order will be filled, but it is also likely that there are more orders waiting ahead of you in the limit order book. It is probably best to let your brokerage firm select where to send a limit order for an exchange-listed stock, since they have a financial incentive to get your order filledÑthe firm gets no commission if the order is not executed. Thus, it is likely to send the limit order to the place where it has the highest probability of being filled.