This may come as a shock, but brokerage houses and banks are using complex, computerized trading mechanisms not just to reduce your transaction costs, but also to line their own pockets without your knowledge. You may think that paying just $5 or $10 per retail stock trade, even for thousands of shares at a time, is a good deal, and it certainly is. But it's not as good as you think it is, because you're only looking at the commission, while the broker doing the trade (could be Scottrade, Fidelity, Ameritrade, or almost any other broker) is looking at the commission and at the possibility of "taking the other side" of your deal for themselves.
Rather than sending your trade directly and impartially to a fair and open exchange, where some objective outsider will set the price, it turns out that the vast majority of brokers now use what one critic calls "internalizers" to settle trades for their clients - internally. The vast majority of brokers scan the trades their clients are executing, and then keep the ones they can make a profit on for themselves. In other words, they make money by not giving clients immediate, impartial access to the best exchange prices. On any one trade, this won't amount to much, just a few pennies per hundred shares traded. But over millions of trades, it adds up.
Barron's writer Steven Sears commented on this problem in an October column, and suggested that a recent speech by Interactive Brokers founder Thomas Petterffy highlighting the issue should be "required reading for securities regulators and Congress." Petterffy's firm sends each of its clients' trades directly to the best exchange for that trade, using trademarked software to objectively evaluate pricing and timing factors. Other brokers could do this, because it isn't an overly complex calculation, but they would have to give up their other revenue stream, which can amount to around $.20 to $.50 per hundred shares, or options contract, according to a study by Transaction Auditing Group, an independent third party cited on Interactive Brokers' own web site. And if you're trading in European securities, your broker might be keeping nearly €3 per 100 shares for itself, according to the same study!
Full disclosure: My son works at Interactive Brokers and pointed this issue out to me following a conversation we had on the subject of trustability in business. And, of course, Interactive Brokers has a competitive interest in pushing all brokers to be more objective and transparent in their pricing. But that's just the way trustability standards are likely to rise. The big, profitable firms won't become more trustable on their own, because they will find it impossible to give up the cash flows they can generate by fooling customers, or by keeping information from them. It will be the new firms, the start-ups, and the technology-savvy that push this transition. But the transition will come.