What it means
Equity traders execute orders in shares, either for customers or for the firm's own account. Their decisions affect the price customers pay or receive, so regulators want them to follow clear standards on fair dealing, best execution and market conduct.
The Series 55 exam was designed to test this knowledge. Typical topics include how orders are routed and executed, the rules on short selling, trade reporting, the handling of customer orders ahead of the firm's own, and the prevention of market manipulation.
Traders also need to understand how the order book works and how different order types behave when markets move quickly. For a business reader, the key idea is best execution.
A broker owes its customers the duty to seek the most favourable terms reasonably available, which includes price, speed and likelihood of completion. Lapses can cost customers real money, so the person executing the trade must understand what that duty means in practice.
The exam has been changed, and FINRA has issued notices revising it over the years, so a particular series number may not carry the same scope it once did. Anyone relying on it should look at FINRA's current list of exams and the firm's registration requirements.
The wider lesson is that execution quality is measurable. Firms review the spread paid, the speed of execution and how often orders receive a price better than the quoted one, and these reviews are a core part of supervising a trading desk.
Supervision of the trading desk is the other side of the coin. Managers review samples of trades, check that customer orders are handled in the right sequence and look for unusual patterns around news announcements.
A firm that cannot show these reviews will struggle to defend itself if a customer or a regulator raises a question.
In practice
Real-world examples.
Example
A brokerage trading desk receives a large customer order to buy 200,000 shares of a mid-sized company. The head trader splits it into smaller pieces over the day to avoid moving the price. She keeps a log showing how each piece was executed.
Example
A compliance analyst reviews a month of trades and finds that some customer orders were executed after the firm traded for itself in the same stock. She asks the trader to explain the sequence and records the answer. The review leads to a change in the desk's order handling rules.
Example
A new graduate joins a trading desk as an assistant. The manager explains that before trading independently he must hold the qualification the firm requires for equity traders. The firm gives him a study plan and a supervised period on the desk.
Formula
Calculation
Cost of crossing the spread = number of shares x (ask price - mid price)
Suppose a stock is quoted at a bid of $49.95 and an ask of $50.05. The mid price is (49.95 + 50.05) / 2 = $50.00. A trader buying 10,000 shares at the ask pays 10,000 x (50.05 - 50.00) = $500 more than the mid price. That $500 is the cost of crossing the spread, and a good execution process tries to reduce it by working the order carefully.Case study
Seen in the real world.
Ironbridge Securities is an illustrative, fictional firm whose small trading desk executed customer orders by hand. A routine review showed that on several large orders the desk had paid wider spreads than necessary because the trader sent the full size to a single venue.
The head of trading introduced a simple rule: orders above a set size must be split and worked over time, and the trader must record the reason for each venue chosen. He also arranged refresher training on best execution for the whole desk.
Average execution costs on large orders fell by about $0.02 a share. On annual volume of 40,000,000 shares, that was worth roughly $800,000 to customers, and the illustrative lesson is that execution quality can be improved by process as well as skill.
Watch out
Common mistakes.
- Assuming the best price is always the lowest or highest quoted price, when best execution also weighs speed, size and likelihood of completion.
- Relying on an old series number without checking how the exam is currently defined.
- Letting a firm's own trading come ahead of customer orders, which breaches the duty to treat customers fairly.
Questions
People also ask.
What is best execution?
It is the duty to seek the most favourable terms reasonably available for a customer's order, considering price, speed and other factors.
What does the bid-ask spread represent?
It is the difference between the highest price buyers will pay and the lowest price sellers will accept, and it is the basic cost of trading.
Who regulates equity traders?
In the United States, FINRA and the Securities and Exchange Commission set and enforce the standards.
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