Payment for Order Flow
How brokers get paid for routing your orders — and what it means for you.
Payment for order flow (PFOF) is the practice where brokers receive compensation from market makers or wholesalers for routing customer orders to them. Instead of sending your order directly to an exchange, your broker sends it to a firm like Citadel Securities or Virtu Financial, which pays the broker a small fee per contract in exchange for the right to fill your order. This is how most commission-free brokers generate revenue from options trading.
Why It Matters
PFOF is the economic engine behind commission-free trading. When you trade options on Robinhood, Schwab, or most other retail brokers, you pay no commission — but the broker receives roughly $0.30 to $0.60 per options contract from the market maker who fills your order. Understanding PFOF helps you evaluate whether "free" trading truly is free or whether you are paying through worse execution quality.
The debate around PFOF centers on a trade-off: retail traders get zero commissions and often receive price improvement (fills between the bid and ask), but the market maker profits from the spread and from the informational advantage of seeing and filling retail order flow. Whether this arrangement benefits or harms retail traders is actively debated among regulators, academics, and market participants.
How It Works
The PFOF process:
- You submit an order to buy a call at the market or at a limit price
- Your broker routes the order to a wholesale market maker (not an exchange)
- The market maker evaluates the order and fills it — often at a price slightly better than the national best bid/offer (NBBO)
- The market maker pays the broker a per-contract fee
- You receive your fill, often with a small "price improvement" over the displayed market
Why market makers pay for order flow: Retail order flow is valuable because retail traders are generally considered "uninformed" — they are not trading on inside information or sophisticated quantitative signals. This makes retail flow less risky to trade against than institutional flow. Market makers can fill retail orders, hedge them, and capture the spread with relatively low risk.
Price improvement: Market makers frequently fill retail orders at prices between the bid and ask. If the bid is $3.00 and the ask is $3.20, you might get filled at $3.15 when buying — saving $0.05 per share compared to the ask. This price improvement partially offsets the cost of PFOF, but the question is whether the improvement would be even larger on a competitive exchange without PFOF.
PFOF economics:
- Brokers receive approximately $0.30-$0.60 per options contract
- Market makers profit from the spread minus the PFOF payment
- Retail traders save on commissions but may pay through wider effective spreads
- The SEC requires brokers to disclose their PFOF arrangements in Rule 606 reports
Regulatory landscape: PFOF is legal in the United States but has been banned or restricted in several other countries (Canada, UK, EU). The SEC has considered reforms, including requiring auction-based execution for retail orders, which could change how PFOF works in the future.
Quick Example
You buy 10 SPY $450 call contracts. The NBBO is $5.00 bid / $5.20 ask. Your broker routes the order to a wholesaler, who fills you at $5.17 — a $0.03 per share price improvement over the ask.
Your savings: $0.03 x 100 shares x 10 contracts = $30 in price improvement. With commission-free trading, your total cost is $5.17 x 100 x 10 = $5,170.
The market maker paid your broker approximately $0.45 per contract, totaling $4.50. The market maker bought your order at $5.17 and can hedge at an effective cost near $5.10 (the midpoint), capturing roughly $0.07 per share or $70 on the trade. Everyone gets something: you get free commissions and price improvement, the broker gets PFOF, and the market maker gets a low-risk spread capture.