November 3, 2020

ECN Fees and How They Can Affect Your Profits

ECN Fees and How They Can Affect Your Profits

Technological advances have made it possible for day traders to trade the financial markets efficiently and securely, much like the big financial institutions.

The electronic communications network (ECN), sometimes also referred to as alternative trading system (ATS), is one such facility, a computerized system that matches buy and sell orders for market securities.

ECNs are central to keeping the market liquid as well as to determining what price a trader will pay when buying a stock, and what price they will get when selling a stock.

ECN brokers are financial experts who use such networks to provide their clients direct access to other participants in the market.

These brokers consolidate quotes from a number of participants, in order to provide tighter bid and ask spreads.

It is not just day traders who can take advantage.

ECN brokers’ clients include banks and other market traders. The brokers provide a marketplace where clients can trade against each other, sending offers and bids into the system.

Clients interact inside the system and traders can get the best offer at that specific time.

If you are planning to get yourself into day trading, it is a good idea to take a careful look at ECNs, as well as the fees charged.

You certainly don’t want to eat away at your returns but the reality is that you will pay ECN fees in some cases.

In this article, we will explain how ECN fees work and break down how they are generally calculated.

What are ECN Fees?

ECN fees is a term used to lump all of the fees charged by networks and exchanges that match buy and sell orders.

Generally speaking, these fees applicable to Canadian market and limit orders that are equal to or above the ask on a buy, or equal to or below the bid on a sell.

Surprisingly, U.S. traders can still enjoy the benefits of ECN trading.

ECN fees are charged whenever a trader places buy or sell orders that are considered to be “removing liquidity” from the market.

Liquidity is a depiction of a financial instrument’s ability to be sold or bought easily at a price close to its current value.

By having you orders in the open market, you are adding liquidity to the market, letting other traders (buyers and sellers) know they have shares available for purchase.

On the other hand, when executing a market order (buying at the ask or selling at the bid), you are taking (or removing) shares off the order book from traders who are offering them on the ask or bid.

For example, a traders who buys or sells incomplete lots — the standard lot size for the stock market is 100 shares — is withdrawing from this liquidity.

The same applies for an order placed on the market, which will be completed immediately.

These fees originate from electronic communications networks and exchanges that are responsible for matching a buyer to a seller or vice versa.

How ECN Fees Work

Think of your orders as basically passing a bridge to an island. The market is the island, the bridge is the path to the island.

This island, which, let’s say is the current price of Tesla, well, that is the current market price.

You have got all the buyers and all the sellers there on the Tesla island. Each one of these ECNs, is a different bridge to the island, and each one charges a toll to pass your shares through that bridge, through that ECN.

When a brokerage company routes customer orders to an ECN, the ECN either offers a small rebate or charges a fee for the broker to place the shares on the system (providing tradable shares, or “liquidity”).

Below Ross traded both AREC and PECK. As you can see, Ross had ECN fees of $553.97 and $376.04 which is substantially more than his commissions.

ECN Fees and How They Can Affect Your Profits

This means that Ross was taking liquidity out of the market with either market or marketable limit orders and was being charged an ECN fee.

This is important for traders to understand and how it can impact your trading profits.

How They are Calculated

Generally, ECN fees are calculated on a per-share basis (a fraction of a cent for each share traded).

They vary slightly depending on the brokerage and the specific exchange, but they’re always fractions of a cent.

For example, E*TRADE adds an ECN fee of $.005 per share to the regular commission rate – all trades are a flat-rate $0 – when trading during pre-market and after-hours sessions.

Below we break down Ross’s ECN fees from the above trades.

As you can see they break down to just fractions of a penny per share but when you’re trading large size they can add up to quite a bit.

ECN Fees and How They Can Affect Your Profits

How They Can Affect Trading Profits

ECN fees are always charged when you are removing liquidity. Most brokerage firms will absorb ECN fees on your trades for their flat fee under “normal” trading circumstances.

Also note that some brokers’ trade quote will always quote you the maximum possible fees (including ECNs) when you are adding liquidity so as to cover their behind.

But on the settled trade confirmation, they won’t actually charge you if your trade meets the addition of liquidity criteria.

However, you can avoid certain portions of ECN fees on stock trades with some brokers if you place your buy or sell orders a couple of pennies out of the bid/ask spread since you are considered to be adding liquidity to the market.

Difference Between ECN Fees and Credits

As mentioned earlier, you will incur more trading fees when you remove liquidity from the market than when you add it.

So, you can be charged ECN fees for placing orders that execute immediately like a market order because it takes liquidity from the market.

On the other hand, there are ECN credits when you add liquidity through routing your trades to specific ECNs.

In other words, you can get a credit to your account (make money) if you provide liquidity to the market like placing an open order on the market that doesn’t execute immediately.

This is done to encourage traders to place resting liquidity-providing orders on ECNs.

Bottom Line

ECN fee structures are unique to each brokerage firm and broker-trader relationship.

However, traders may find it difficult to figure out and to anticipate the cost of a completed trade.

No matter what type of trader you are, it is important to understand the impact these fees will have on your bottom line.

They can be avoided if you know and follow the rules, but knowing when they will or will not be charged can be difficult for inexperienced traders.