The European Securities and Markets Authority (ESMA) released its latest a Trends, Risks and Vulnerabilities (TRV) report focused on neo-brokers in the EU.
Neo-brokers have grown rapidly in the last few years starting from a low base. The total value of neo-broker client assets in the EU surpassed €100 billion ($108.3bn) in 2022, reaching nearly €150 billion in 2023. The US and UK markets saw comparable increases in total assets over the same period. In China, total neo-broker assets started growing rapidly only following the pandemic.
Execution strategies for client orders vary across neo-brokers and largely depend on the financial instrument traded. Neo-brokers offering shares, ETFs and other instruments traded on a trading venue often act as intermediaries executing the orders received by clients in a chosen venue.
Some neo-brokers also receive payments from third parties for directing client order flow to them as execution venues. This arrangement is commonly known as payment for order flow (PFOF).
“Following a recent ban on PFOF, some neo-brokers may need to change their business models in response and consider business activities such as securities lending or product manufacturing,” ESMA wrote in the report.
Neobroker growth may also involve risks, notably to orderly markets and consumer protection. Especially in an age where consumers can rapidly share (dis-)information via social media, the widespread and growing offer of online trading services by traditional brokers as well as neo-brokers may in some situations increase the potential for disorderly market events.
One example is the risk of “short squeezes”, as seen in the 2021 GameStop episode. Consumer protection concerns arise in these situations but also more broadly, as self-directed retail investors use digital means to gain access to investment products.