Brokerage risk
A-book vs B-book: how brokers route client order flow
Every order a broker receives ends up in one of two places. The broker either passes it to an outside liquidity provider (the A-book) or keeps it on its own book (the B-book). Most brokers combine both, and the rules that decide where each order goes sit at the heart of their risk management.
By Admin · · 3 min read
What A-book means
In the A-book model, the broker passes client orders to external liquidity providers, such as banks, prime brokers or other market makers. The broker earns a commission or a mark-up on the spread. The market risk of the client's position sits with the liquidity provider.
The broker still carries other risks: credit risk to its liquidity providers, operational risk if a connection fails, and the cost of execution.
What B-book means
In the B-book model, the broker keeps the order on its own book and becomes the client's counterparty. When a client's position gains, the broker's book loses the same amount, unless the broker has hedged it.
This creates a conflict of interest, because the broker can benefit when clients lose. Regulators expect brokers to identify, manage and disclose such conflicts. Brokers running a B-book watch their net exposure in each instrument and hedge part of it when it passes their limits.
Hybrid routing: rules decide
Most brokers run a hybrid model. Routing rules decide, client by client or order by order, which flow goes to the A-book and which stays on the B-book. Typical inputs:
- Client profile: trading history, holding times and how consistently the client's trades are profitable
- Instrument and size: large orders and less liquid instruments are more often passed on
- Net exposure: when the book's position in one instrument passes a limit, new orders in that direction can be routed out or hedged
- Market conditions: around major economic releases, more flow may be routed out
Partial routing is common too: a set share of each order goes to a liquidity provider and the rest stays on the book.
Routing rules decide where each client order goes
Routing rules
- Client profile
- Instrument and size
- Net exposure
- Market conditions
A-book
Passed to a liquidity provider
It carries the market risk
Partial routing
A set share goes to a provider
The rest stays on the book
B-book
Kept on the broker's own book
Hedged past exposure limits
Where the risk sits
| A-book | B-book | Hybrid | |
|---|---|---|---|
| Market risk on client positions | Liquidity provider | Broker | Split by the routing rules |
| Main income | Commission or mark-up | Spread, plus the net result of client positions | Both |
| What to watch | Execution cost, liquidity providers | Net exposure per instrument | Rules that no longer fit the flow |
Fair treatment comes first
Whatever the model, brokers must follow their regulator's rules on best execution, conflicts of interest and fair treatment of clients. Routing rules should be written down, applied consistently and reviewed. Clients learn how their orders are handled from the broker's order execution policy.
How technology helps
Risk management software lets a dealing desk see net exposure per instrument as orders arrive, profile clients, apply routing rules and get alerts when a limit is reached. Fellowdata's risk management technology is built for this work; see how it fits brokerages.
Common questions
Is A-book better than B-book?
Neither is better in itself. Each puts the market risk in a different place; what matters is that the model is disclosed and conflicts are managed.
Can one broker use both?
Yes. Most brokers do, through hybrid routing rules.
Does Fellowdata decide where orders go?
No. Each broker sets its own routing rules; Fellowdata's software helps apply and monitor them.
Sources
Checked on .
- ESMA: Q&A on CFDs and other speculative products (PDF): conflicts of interest when a firm is its client's counterparty; hedged, unhedged and hybrid models; best execution and the order execution policy. Written under MiFID I; ESMA says its principles stay the same under MiFID II
- EUR-Lex: MiFID II (Directive 2014/65/EU): EU rules on conflicts of interest (Article 23), acting in clients' best interests (Article 24), best execution and the order execution policy (Article 27) and client order handling (Article 28)