Can a broker refuse to place my limit-orders?

Question

I've got an interesting situation. A few weeks ago I found this company trading on the TSX Venture at about $6 with a rather decent market cap however, the daily volume on the stock was fluctuating between 20k-200k+ which tends to be the sort of market I like to play in.

It became interesting when I pulled up the level-2 quote on the stock and I noticed the company had almost no liquidity -- That is, there was only 3-4 buy-limits on the whole entire CLOB at any given time and that the bid-ask spread was in excess of 10%.

The kicker of course was that the buy limits were only 1-2k shares each meaning that if I placed a buy-limit really low and somebody submitted a market sell-order for even 6-7k shares I would get filled. So of course I submitted a buy limit for 500,000 shares @ $0.01 through RBC and the order got routed onto the TSXV and sat there for a few days among the other 3-4 orders.

A few days later, as the market opened the bid-ask on the stock was $0.01-$6 because there was literally no buyers left (seriously, if you look on the historic bid-ask on a Bloomberg terminal, it shows my order as the ask @ $0.01 for like 30 minutes this one morning and a few other times, it was nuts) meaning that if any market sell-orders were submitted I'd get them at $0.01! However, 20-30 minutes into the trading day more order started to surface thus shrinking the bid-ask spread.

A few days after that I pulled the order because the CLOB started getting stacked with buy-limits and I didn't feel there was a point keeping my bid at $0.01, so I pulled it and looked for another stock to trade. A few days ago the market started repeating this process whereby the CLOB became empty, and in fact even now there's only 3 orders on the buy-side. So I decided to submit another buy-order, except this time RBC rejected my order and wouldn't let me place it. So I called RBC and was told "the price is too far from the market price", however I was allowed to submit that exact same order only a week prior. In fact the registered trader I talked to said that he couldn't submit the order because it could be considered "market manipulation" or a "false order in which I didn't intend to transact".

I argued that I was providing liquidity and that the markets are supposed to be free and that on other stocks I see people with sell-limits on blue-chip stock up at like 1000% above the current price, and even bids down at $0.01 on a lot of other various companies. I also argued that the order was accepted a few weeks prior and told him to go check the historic bid-ask on it to prove that it got accepted last time. All of which was to no avail and an incredible tick-off.

Needless to say, the reason for having such a deep buy-limit was simply because if there's even one large market-sell order or a half-decent sized stop-loss and it get's triggered as the stock goes down, it could blow through the few buy-limits on the exchange and actually fill me. In fact if you look at what happened recently on Ethereum (which was traded on an exchange with the same rules as the TSXV) the premise for my low bid is exactly that.

Now I'm well aware the chances of a deep-fill happening are incredibly low, but it only needs to happen once for me to make my money. I guess the question is... does my broker have the right to reject my orders? And if so, why did they allow it last time?

Thoughts?

Answer 1

Ethereum trades are not subject to the same rules as securities are.

Thats the primary flaw in your assessment. Yes, cryptocurrency is a free trading arena where you can actually take advantage of market inefficiencies yourself 24 hours a day, 7 days a week, at massive profits. The equity securities markets are not like that, and can't be used as a comparison. If you have a preference for flexibility, then it is already clear which markets work better for you.

Market makers can make stub quotes, brokers can easily block their retail customers from doing it themselves. Even the dubious market manipulation excuse is reference to a sanction exclusive to the equity markets. The idea that it went through a week earlier probably triggered the compliance review.

Yes, a broker can refuse to place your limit order.

Answer 2

Yes, they have a right and a duty to reject trades like that. I am pretty sure that your original order flagged your account. There is a serious issue right now in the financial markets with institutions doing something very similar to this. I do believe that you intended no manipulation, but orders like that are commonly used in abusive situations. In fact, if the order had filled, it is likely that it would have been retroactively canceled and you would have been given your cash back. It is also possible that had it filled that your account would have been closed.

Each country has its own system for how it handles trades deemed to be manipulative. In a recent study, they looked at the penalties invoked. In the United States, 87% of the time the profits from those trades are seized. In 71% of the cases, additional fines are imposed on top of that. In 20% of the cases, the person is banned from having a brokerage account anywhere.

Equity markets trade on rules that require everyone works with clean hands. This is a general rule planet-wide. That is why Warren Buffett gets so frustrated that he cannot hide his trades. His positions are so large that he has to publicly disclose them. In many circumstances, he is not permitted to keep short-run profits if he would try and make them. If he were to day trade and made a profit in a large enough position, he would be required to forfeit all profits to the Treasury.

If you really want to profit from orders like that, enter low but not catastrophically low orders. For example, GOOG is trading for 1135 at last quote. I would be willing to pay around 250 for it. I would have no problem posting a GTC buy order at $250. It would almost certainly sit there unfilled, but if there were a large price shock, it would be sitting out there waiting to fill. It is not a manipulative order, and I would not cancel it unless new financials came out. It's a great company, it just isn't a thousand dollar company.

Answer 3

There has been an initiative over the past few years to try to prevent 'fat finger' errors. For example there was a story where a trader wanted to sell 50 DAX index futures at 5000 EUR but made a mistake and entered an order to sell 5000 DAX at 50... which in turn resulted in the market taking a severe hit! Google "fat finger trades" and there will be countless examples from firms that should have known better.

These things look bad for the broker and undermine investors' confidence in the market.

As a result now, most brokers (depending on their regulatory regime) that allow their customers to submit orders into the market subject them to pre-trade risk controls or checks before allowing the order to go to market.

For example, in Europe Article 15 of the Regulatory Technical Specifications for the Markets in Financial Instruments Directive Article 17(1) defines "Pre Trade Controls on Order Entry" as follows:

1. An investment firm shall carry out the following pre-trade 
   controls on order entry for all financial instruments:
(a) price collars, which automatically block or cancel orders 
    that do not meet set price parameters, differentiating between 
    different financial instruments, both on an order-by-order basis and 
    over a specified period of time;

Typically the control limits the order based on a percentage from the current bid or offer or the last trade price. While this works well for liquid stocks, they work less well for illiquid stocks like the ones you are trading. For example, if the limit was 20%, you would have been able to submit an initial order because there was no bid, while after a bid appeared at $0.02 an order to bid at $0.01 would be rejected as that is more than 50% from the current market bid.

In your case, the broker probably has controls not appropriate to the stock (but they probably don't like to encourage trading of penny stocks anyway). You could argue that the controls are not set appropriately, and have them relax them somewhat, or escalate to their regulator (or change broker).

You do have to think however - what is the situation for the person on the other side? Imagine if it was your Aunt who had a position in that stock, and their broker entered a market order for them to help them get rid of the stock, and you bought it at $0.01 instead of $0.03, would that be fair to them, and would that improve their confidence in the market?

Bitcoin, Ethereum and other crypto currencies are not "financial instruments" and are not subject to the same regulatory regime. There are virtually no rules. While many of the firms operating try to keep things above board, you have to be aware that they are not subject to the same oversight. If they wanted to make up bid ask prices to manipulate the market, there would be very little to stop them.