Smart order routing (SOR) is the automatic process in online trading, which follows a set of rules that look for and assess trading liquidity.
The goal of SOR is to find the best way of executing a trade.
The concept is pretty simple
- Smart refers to how effectively you use your brain to achieve an optimal result.
- An Order is some type of instruction given with the expectation that action will be taken.
- Routing refers to setting a course aimed at reaching a final destination.
SOR is an automated process of handling orders, aimed at taking the best available price throughout a range of different trading venues.
Forex brokers use smart order routing (SOR) technology to search for liquidity across multiple venues, to give their customers the best possible chance of getting price improvements (no or positive slippage).
Smart Order Routing is performed by Smart Order Routers.
They are systems that analyze the state of venues. And to place orders in the best available way.
Smart Order Routers rely on defined rules, configurations, and algorithms.
They serve to tackle the fragmentation of liquidity by analyzing the different offers and placing orders based on the best available option.
Most major institutional investors and brokers use a smart order router to automatically find the best possible prices for trades as quickly as possible.
Each smart order router will be set up according to different needs.
Smart order routers are often deployed as part of an automated trading system, though the level of automation involved varies between routers.
Smart Order Routing is NOT Algorithmic Trading
The phrases Smart Order Routing and Algorithmic Trading are often used interchangeably, when in fact they are quite different, although complementary, functions.
Smart Order Routing considers only Where the order is being directed and at What price. Algorithms may have determined What, How, and When the order will be placed.
Algorithmic trading is a trading system that utilizes mathematical models for making transaction decisions in the financial markets. The strict rules built into the model attempt to determine the optimal time for an order to be placed that will cause the least amount of impact on an asset’s price.
How Does One Become a Smart Order Router?
Smart starts with a clear investment and execution policy. Consider first what you are you trying to accomplish. What have you promised your clients or investors?
The ABC’s of Order Routing:
- Access to real-time market data from each venue or a consolidated stream from a commercial provider.
- Basic software to identify and direct messages to appropriate destinations.
- Connectivity to the selected execution venues. This process can be as simple as linking to one of the many Virtual Private Networks available within the financial services space or as challenging as maintaining dedicated lines to each of the desired venues.