What it means
In a standard order, the client sets the exact terms: how many shares, at what price and when. A discretionary order loosens one or more of these terms.
The broker may be allowed to pay a few cents above the stated limit, or to wait for a better moment during the day, using their judgement of market conditions. The value comes from the broker's view of the market.
A large order placed all at once can push the price against the client, while a skilled broker can break it into pieces or time it to match periods of strong trading. The discretion is meant to produce a better average price than a strict instruction would.
The arrangement requires trust and clear limits. Because the broker is making decisions, the client usually has to authorise this in writing and must be confident that the broker will act in the client's interest.
Regulators in many countries have rules on how discretion is granted and recorded, and they treat misuse as a serious breach. Not all discretion is the same.
Time and price discretion govern how a single trade is carried out, while a fully discretionary account lets the broker decide what to buy and sell. The first is a feature of one order, whereas the second is an investment management service.
A nuance is that the client still takes the market risk. Discretion can improve the execution, but it cannot guarantee a profit, and the final price may be above what the client expected.
It is sensible to set a firm ceiling so that discretion never exceeds an acceptable range.
In practice
Real-world examples.
Example
A pension fund wants to buy 200,000 shares of a mid-sized company over the course of a day. It gives its broker a discretionary order with a price ceiling and permission to choose the timing. The broker spreads the purchase across periods when the market is deepest.
Example
An investor wants to sell a stock at $25.00 but is happy to accept $24.95 if it ensures the sale goes through. She gives her broker price discretion of $0.05. The order is filled at $24.97, avoiding the risk of missing the sale.
Example
A company's treasury team places an order to sell a block of shares received from an acquisition. Because the shares trade thinly, the treasurer gives the broker time discretion to wait for a busy session. The sale completes the next morning at a better average price.
Formula
Calculation
Maximum price on a buy order = limit price + discretionary amount
A client asks a broker to buy 10,000 shares with a limit price of $40.00 and a discretion of $0.05. The broker may pay up to $40.00 + $0.05 = $40.05 per share. The broker completes the purchase at an average price of $40.04. The cost is 10,000 x $40.04 = $400,400, which is 10,000 x $0.04 = $400 above the stated limit but $0.01 x 10,000 = $100 below the maximum allowed.Case study
Seen in the real world.
Marlowe Asset Management is an illustrative, fictional fund with $120,000,000 under management. It needed to buy 300,000 shares of a thinly traded company and feared that a market order would drive up the price.
The dealing head instructed the broker to buy with a limit of $15.00 and a discretion of $0.10, to be carried out over two days. The broker made the purchases in small lots, completing the order at an average of $15.06, which was $18,000 above the limit price in total but within the allowed range.
A market order, by the analysis of the fund's own data, would have averaged about $15.30, costing an extra $72,000. The illustrative lesson is that disciplined discretion, set within clear limits, can save far more than it costs.
Watch out
Common mistakes.
- Giving a broker open-ended discretion without a price ceiling, which can lead to a poor outcome that is hard to challenge.
- Confusing a discretionary order with a discretionary account, when the first covers one trade and the second covers the broker's ongoing investment choices.
- Assuming discretion guarantees a better price, when it only gives the broker room to try.
Questions
People also ask.
Do I need to give written permission?
Usually yes. Brokers and regulators typically require clear authorisation before a broker can use discretion on a client's behalf.
Who bears the risk if the market moves against me?
The client does. Discretion changes how the order is carried out, not who bears the market risk.
When is a discretionary order most useful?
It is most useful for large orders, thinly traded securities or volatile markets, where a rigid instruction could fail or move the price.
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