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If I use an online broker such as Trade King or Scottrade to buy shares of some company, how do they buy the shares? Do they have to go through a market maker? Is there a notion of the broker bypassing market makers and purchasing directly, thus avoiding various manipulations by market makers?

Assuming there is a notion of purchasing directly, then why would anyone use market makers?

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1 Answer 1

Scottrade itself is a market maker. But Trade King isn't.

Market makers is a risky endeavour. As the market maker needs to hold securities(inventory) so that it can fulfill orders, both buy and sell, it should be willing to take some losses if required. Smaller organizations would be loath to take such losses, which may be detrimental for their existence. So they use the services of other market makers. Market makers take their cut from the bid ask spread which compensates them for the risk they take.

There are higher monetary rules and regulations imposed upon a market maker along , which is cost inhibiting for a small broker.

Purchasing directly is a myth for small timers unless and until you are a top shot like Warren Buffet. Nobody is willing to buy or sell you(r)10-20 shares. It is costly, time consuming and most probably a nuisance. The settlements and background stuff is quite cumbersome. So they do it in larger blocks to minimize costs and increase efficiency. Assume 10000 trades of 15 shares each or a single trade of 150000 shares. The regulatory filing will be simple( only one rather than 10000) for the settlement and not that costly either. No broker or exchange would like its order network to be clogged by 10000 order of so small values. So it makes it easier and cheaper for everybody including the exchanges, market makers, buyers, sellers and everybody involved.

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Does this mean that Trade King has to go through a market maker or it avoids market makers completely? –  user782220 Jan 29 '13 at 0:35
    
"Nobody is willing to buy or sell you(r)10-20 shares. It is costly, time consuming and most probably a nuisance." These are called 'odd lots' and used to be an obnoxious deal, but we have computers to do these things these days, so nobody cares anymore. See also: reuters.com/article/2012/11/20/… "Odd lot orders to be added to U.S. stock data feed" in 2013. "Trading of lots of under 100 shares has become more common." –  fennec Jan 29 '13 at 20:07
    
@fennec - Oh no I don't deny that ever doesn't happen. That a big order is always broke down to smaller numbers to not spook the markets does, and will, exist. That is more from a trade prespective, you article does cite it is done by machines not mere mortals. What I cite is more of a settlement view, once you decide to go long on the securities. Settlements for trading is much easier than when done for investments. –  DumbCoder Jan 29 '13 at 21:56

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