What Is a Contra Broker?

A contra broker is a broker that is taking the opposite side of a transaction initiated by another broker. For example, in a transaction in which a broker wishes to sell securities to another broker, the buyer would be a contra broker for the purposes of that transaction. Conversely, when a broker is looking to buy, a contra broker would be on the sell side of that transaction.

Key Takeaways

  • Contra brokers are counterparts to a transaction involving another broker.
  • They are not to be confused with market makers, which play a different, though complementary, role.
  • For brokers initiating large transactions, it can be useful to work with multiple contra brokers in order to make the transaction less visible to other market participants.

Understanding Contra Brokers

Contra brokers should not be confused with market makers. Whereas market makers profit from the bid-ask spreads of the securities they hold in inventory, contra brokers are simply the opposing party to a given broker order. In taking the opposite side of a trade, they might be trading on behalf of a client, or they might be trading for their own proprietary accounts.

For the most part, contra brokers act on behalf of their clients. Like market makers, contra brokers are an important contributor to overall market liquidity and fall under the regulatory oversight of the Securities and Exchange Commission (SEC) as well as any exchanges of which they are a member.

Brokerage firms will often maintain relationships with a number of preferred contra brokers. Through these connections, brokers can gather market intelligence from a wide range of quotes, helping them choose which counterparties are most appropriate for a particular client's needs.

Maintaining such trading relationships is also essential when trading large blocks of securities and in cases where the broker initiating the transaction does not want to reveal the true size of the position to any one contra broker. By spreading the transactions across multiple contra brokers, the broker and their clients can maintain a lower profile.

To ensure the integrity of the markets overall, the Financial Industry Regulatory Authority (FINRA) monitors broker-to-broker trades to ensure that they are well documented and executed in a timely manner.

Real World Example of a Contra Broker

Luke is the managing director of a large brokerage firm. One of his clients wishes to make a large investment in a company with a relatively small market capitalization. The client is concerned that if it becomes common knowledge that they are investing in the stock, the price of the stock might rise before the full number of shares can be purchased. For this reason, they request that Luke exercise caution in ensuring that the trade is executed with minimal visibility to other investors.

To accommodate this request, Luke turns to his network of longstanding relationships among other brokerage firms. He discreetly inquires about their clients' interests in the sector and learns that some of the brokerage firms in his network have clients wishing to sell their shares in the stock.

Luke arranges to have several of these firms act as contra brokers for his client's purchase. By spreading the share purchases across multiple contra brokers, the transaction is less visible to other market participants, and the impact on the stock price is minimized.