Directed Order

Directed order flow occurs when a customer's order to buy or sell securities, wherein the customer gives specific instructions to the broker or dealer for the order to be routed to a particular exchange or venue for execution. A directed order is so named because the client directs the order routing for execution. The client preference for a particular exchange for execution may be based on the view that incrementally better execution prices are available there for trading a particular stock or security. This is a factor that is of significantly greater importance to the active trader than it is to the average retail investor.

In contrast to directed orders, non-directed orders are those where the client does not specify a particular venue for order execution. The choice of exchange or venue for order execution, in this case, is left up to the broker or dealer. In an effort to facilitate transparency and prevent wrongdoing with regard to routing of non-directed orders, the SEC adopted Rule 11Ac1-6 in November 2000, requiring all broker-dealers to furnish quarterly reports that disclose their order routing practices. Rule 11Ac1-6 was subsequently replaced by Rule 606.

As trading venues have increasingly consolidated while offering similar service levels, the advantages of directed order flows have dissipated. The proliferation of Electronic Communication Networks (ECNs) has been instrumental in eroding arbitrage opportunities available from directed orders. However, with greater use of algorithms, machine learning, and similar quantitative-driven investment strategies, robotic selection of preferred trading venues looks to be setting up something of a renaissance in directed order selection.

In reality, today's techniques to achieve best-execution for trade orders has become less about directed, and non-directed order flows, and more about whether an order is deemed aggressive or passive. Aggressive orders are entered into the order book of a trading venue and extract market liquidity; while passive orders add to market liquidity.