Do brokers act in the best interests of their clients? New evidence from electronic trading systems

• Published date: 01 April 2016
• Date: 01 April 2016
• DOI: http://doi.org/10.1111/beer.12066

Do brokers act in the best

interests of their clients?

New evidence from electronic

trading systems

Annilee M. Game1and Andros Gregoriou2

1. Norwich Business School, University of East Anglia, Norwich, UK

2. Hull University Business School, University of Hull, Hull, UK

Prior research suggests brokers do not always act in the best interests of clients, although morally obligated

to do so. We empirically investigated this issue focusing on trades executed at best execution price, before and

after the introduction of electronic limit-order trading, on the London Stock Exchange. As a result of

limit-order trading, the proportion of trades executed at the best execution price for the customer significantly

increased. We attribute this to a sustained increase in the liquidity of stocks as a result of limit-order trading,

regardless of market capitalisation. We discuss the ethical implications of our findings and conclude that

market structures that enhance market competitiveness may help reconcile broker and client interests.

Introduction

Continuing global economic uncertainty and recent

revelations concerning the role of derivatives traders

in fixing Libor interest rates (London inter-bank

lending rate) (BBC 2012) have heightened media and

public scrutiny of the perceived short-term, profit-

driven behaviour of investment professionals. The

ethical motivations and conduct of individuals who

trade stocks on the financial markets are of particu-

lar interest. Given that stockbrokers and traders are

dealing with other people’s money, they are expected

to uphold the highest ethical standards in order to

maintain public trust in the market system as a whole

(Baker & Veit 1998). Underpinning this psychologi-

cal contract, stockbrokers are obligated to execute

trades on the financial markets with ‘due regard’ for

the interests and fair treatment of their clients (FCA

2013). However, previous research suggests that

brokers’ personal goals and interests may sometimes

override their obligations (e.g. Battalio & Loughran

2008, Angel & McCabe 2013a). How to better align

brokers’ motivations and actions with investors’

interests is therefore a key ethical concern and the

focus of the present study.

Based on evidence suggesting that stockbrokers

see little need for ethics in trading, and perceive

ethical codes as an unnecessary constraint on the

competitiveness of the financial markets (e.g.

Norberg 2009), we argue that structural changes to

the mechanisms for executing transactions in the

markets may constitute an effective means of align-

ing brokers and investors’ interests that can comple-

ment the development of ethical standards and

ethical management practices. Specifically, because

the electronic limit-order trading system increases

competition (via improved liquidity and informa-

tional transparency), we propose, consistent with

Adam Smith’s egoism (1981 [1776]), that it may help

translate brokers’ self-interested inclinations into

Business Ethics: A European Review

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Business Ethics: A European Review © 2014 John Wiley & Sons Ltd, 9600 Garsington Road,

Oxford OX4 2DQ, UK and 350 Main St, Malden, MA 02148, USA

doi: 10.1111/beer.12066

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C2014 The Authors

Business Ethics: A European Review V

C2014 John Wiley & Sons Ltd, 9600 Garsington Road,

Oxford OX4 2DQ, UK and 350 Main St, Malden, MA 02148, USA

doi: 10.1111/beer.12066

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Business Ethics: A European Review

Volume 25 Number 2 April 2016