DMA vs broker, which is best?

[orangetrader]

Hello all, I’m a newbie to the forum. I’ve been a mid term stock investor for a good number of years now and I am about to move into trading. I just wondered if anybody had a view with regards to the benefits of using DMA such as IB vs a no thrills online broker (currently have a TW waterhouse account)? I have the funds for a DMA account and expect to be doing a few trades per day on average. Presumably there’s a point (volume of trades) where one becomes more cost effective than the other? Are there any other pros / cons apart from cost and do you pay tax for DMA in the same way that you would through a broker?
Thanks in advance, I’m just finding my way at the moment and am finding this forum very useful.

 

[loogling]

Hello all, I’m a newbie to the forum. I’ve been a mid term stock investor for a good number of years now and I am about to move into trading. I just wondered if anybody had a view with regards to the benefits of using DMA such as IB vs a no thrills online broker (currently have a TW waterhouse account)? I have the funds for a DMA account and expect to be doing a few trades per day on average. Presumably there’s a point (volume of trades) where one becomes more cost effective than the other? Are there any other pros / cons apart from cost and do you pay tax for DMA in the same way that you would through a broker?
Thanks in advance, I’m just finding my way at the moment and am finding this forum very useful.

Here's an opinion from another new forum member.

It depends on what you are looking to do. If you want to scale in and out for a few hundred shares at a time, then a per share commission basis from IB can be cheaper than the flat rate at Waterhouse. But if you like sending big sized orders in low priced stocks, Waterhouse can end up costing less on a per share basis.

Commission costs, however, isn't a big factor unless you execute so many trades per day. (Not that I think it's unimportant. It actually is crucial for me as I execute over a hundred trades per day on average.) The more important thing you should be looking at is the execution. Many people seem to try to save on commission and not realizing that the saving isn't worth it at all if they can't get the trades filled at the price they want and see. For example, if your market order for 1000 shares doesn't get filled and the price moves away from you 1 cent, that slippage would cost you $10, which may cancel out any commission savings that you may have. This is where DMA brokers come in.

With DMA brokers, you have the choice of sending the orders to specific ECNs or market makers. This can provide speed advantage, but possibly at the price of higher costs from the fees for removing liquidity (i.e. ECN fees). Waterhouse isn't really a DMA firm, but if you actually use its active trading platform, you do have access to ARCA ECN as well as INET. Otherwise, you need to use Waterhouse's smart order routing which is not bad and can save you from incurring any sorts of ECN fees. So you'll have to weigh the costs and benefits with respect to what you're trying to do. If you're going to trade everyday, then a good platform (i.e. fast data feeds, easy to manage orders, ...) is a necessity.

If you trade for a living and not investing, then your gains will be taxed as income at the income tax rates, not as capital gains, doesn't matter where you trade.

I hope this helps.

 

[loogling]

You may also want to keep this in mind about IB, as well as other brokers. The following is from winstontj, from another forum.

"Mon Oct 18, 10 03:29 PM

Interactive Brokers internalizes order flow to a company they own called Timber Hill. Essentially what most retail firms do is set their pricing structure such that it is in your favor (in terms of commission and fees) to route orders ?AUTO? or ?SMART? versus sending direct to an exchange. By internalizing orders IB crosses your trade with other IB clients rather than sending to an exchange. What this means is that even though the stock is traded on NYSE for example, your trade will never reach the open market. Timber Hill has internal matching/crossing engines that take your trade first.

This is why you will often see sub-penny price improvement when you route ?SMART?. They front-run your trade and if you read the fine print ? your order is essentially handled as a Market order versus a limit to an ECN. IB/Timber Hill looks at your order first. If they don?t like it or want to pass on the trade then they can flash it (they get paid for this) to dark pools, and finally if the dark pools pass on your trade then they send on to whatever exchange has liquidity. All of this takes time and costs you slippage ? which most people overlook because the commissions are lower. Also, your fees are lower but IB makes the spread by charging you the offer to get long and the bid to get short. So every order they cross internally they make the penny spread from their customers while having the ability to front-run your trade via ?price improvement?.

If you want to trade on IB you should be ?unbundled?, you should trade direct to an ECN 100% of the time (IMHO, ARCA has the best smart order routing system) and you should get an outside data source because IB limits you to 100 stocks and only sends ?snapshot? quotes every 100ms versus real actual data. I also don?t know if IB subscribes to all of the ECNs or if they just send you snapshot data from a partial ECN list."

 

[orangetrader]

Thank you for the reply, it was very useful. I thought that I would post to say thanks and offer my current thinking.

Basically my background is as follows. I bought my first share and realised my first loss when lastminute floated. I then became a reasonably active investor (not trader) in 2005 and went on to see some gains and but also some serious losses after holding on to some real dogs for far too long (having formed a very sentimental attachment). Anyway 6 months ago I found myself looking for something to occupy my time and decided to pursue trading (for many reasons + long standing fascination) Since then I have gone through numerous books covering technical analysis, trading psychology, money management, trading systems/styles, fundamental analysis/value investing etc…. I then started trading end of Oct/early Nov. So far I’m happy with how things are going. I had a bad break with ROK (I held shares prior to them going into administration) which wiped some of my profits but since then I have got back to a cash positive position (some losers but up by around 10% in 2mths after all losses). So that’s the background.

I would describe my trading style as perhaps swing trading but really it’s fairly broad and discretional e.g. I look for shares which are trending and are at a point where the price movement suggests value from a technical perspective. But then I also apply some fundamental checks i.e. is there a good story and are there any major early warning signals e.g. being over-valued or having too much debt and too little cash.

Anyway to date I am only using TD Waterhouse and a spread bet account for the occasional trade which requires a guaranteed stop. I only place market and stop-loss orders. I have taken the view that at this stage it is better to identify the right share at approx the right time rather than analyse intra-day price movement for the “optimum” price as if I have read the market correctly I will make a profit anyway. I tend to hold for a few weeks on average. Am I missing a trick here – should I spend more time getting the entry point and transaction cost spot-on? Td waterhouse isn’t too expensive (£8.95 per trade at present)

I am very strict about limiting losses and once a threshold has been reached (and my original reason for trading dis-credited) the holding is sold without question. However as time goes by I find myself with shares which are neither making a profit nor realising a loss. Should I hold and give them the benefit of time to see if they turn good? or should I call time and find a more worthy hard working home?

My approach of mixing technical and fundamental analysis – any thoughts? recipe for disaster or the next Warren Buffet with charts?

 

[loogling]

Some comments on choosing broker:
I had the wrong guess that you were trading with Waterhouse Canada. It's in fact UK. I have seen the Canadian platform, but not the British one. I trade mostly NYSE stocks and execute many times per day. For my purpose, £8.95 would be too expensive. You may want to check TradeStation Securities for trading US stocks. (I'm not familiar with European markets.) Cheaper commission plus more routing options. However, if you hold your trade for more than a week, commission wouldn't be a big factor as long as it's not too expensive.

Thoughts on technical and fundamental analysis:
The longer your time frame for holding stock, the more important fundamental analysis becomes. Oppositely, the shorter the time frame, the more important is technical analysis. The mixture of the two will depend on your time frame. Company earnings come out quarterly or less often in some countries. Important economic numbers once every few weeks. Thus, if you hold your trade for 1-2 weeks, you'll need to rely heavily on technical analysis. No need to look at the debt level nor the cash level here, as long as the company is not going bankrupt. But keep fundamental analysis in mind so that you will not forget the bigger picture.

(Some people trade off news. To me, that's more technical than fundamental. Traders use past experience on how prices move after the news report to aid their trading which is another form of pattern recognition.)

No matter which method you choose, psychology and position management are probably more important.

On psychology:
After you enter a position, you should have a rough guess in mind, based likely on experience and the reasons why you enter, as to how the stock price should move next. If the stock doesn't behave the way you expect it to, then something is wrong. If that's the case, cut your size or get out first. You can always enter again later on. With respect to you case of finding shares that are going nowhere, you will have to ask yourself if you expected the stock to move a certain way within a certain time frame. Once that time is up and nothing is happening, something is wrong, so get out first. The stock may move in the direction you predicted some time afterward, making you feel upset for getting out. But having the habit of getting out when something is wrong will keep you in the long run.

For a long time, I often found myself on the losing end because I was focusing on the money. At some point, I grasped the concept of "focus on doing the right thing" which comes down to cutting losses. The profits become a byproduct of that. My results improved drastically. There are lots of trading phrases but the one that I always keep in my mind is "The first thing to do when you're wrong is to stop being wrong!" It's a common logic, but if you can put it to work well enough that it becomes second nature, then you'll be fine.

That's the psychology within you. You'll also have to be aware of crowd psychology and price formation. If you can explain crowd psychology of different chart patterns, then technical analysis will give you a better understanding of market sentiment, rather than being just a fortune-telling tool. The book "Markets in Profile" was helpful to me in this respect. (I rely mainly on tape reading and chart patterns with no technical indicators. Indicators like stochastics, moving averages, etc, to me, just take me further away from the raw data. If I feel confident reading the raw data, it will not do be any good to read some data that's further derived from that.)

On position management:
Keeping it short, for longer term trading, the more important for scaling in and out becomes. As the time frame gets shorter, you want the order size to be higher on each enter. The order size for each stock will depend on the liquidity of that stock.

To succeed consistently, you will obviously need an edge. The edge will depend on your style of trading. Insider trading, flash trading, and perhaps super fasts connections are all edges, some of which are unfair. They are edges because they give traders a high probability of winning. You'll need to search for your high probability situations. If have many ways and reasons to enter a trade, it will be somewhat difficult to come up with one. Try sticking to a few ways that have been good to you and observe the chance of winning for each of those few ways over time and many trades. Don't worry about picking the exact price unless you're scalping. Picking tops and bottoms are very costly activities. Going with the trend as you're doing now is good. You'll only need to pick a price range to enter. As long as the price doesn't break out of that range (especially breaking through supports and resistances with strength) you're fine. But don't forget about the time. It should go in your favor in the time that you allow it to. How much time will depend on your experience with different situations.

Seems like I'm going on and on and on. Anyhow, just some opinions from another trader. There have been many times when I wanted help, but couldn't find any replies. So I hope I'm being helpful in some ways here.