PFOF (more broadly, HFT + maker taker) has tightened retail spreads on both underlying AND options to levels previously unfathomable. I don’t get why people think retail are the ones getting ripped off. Retail order flow is uninformed. It’s profitable for that reason, and nothing nefarious.
Institutional traders are the ones hurt by all of this. HFT latency arbing every single sniff you put out, front running every fill. PFOF has removed the uninformed order flow for hedge funds to trade against so they’re left trading against each other, or getting their lunch eaten by the aforementioned HFT.
Some of the orders can be internalized. Not sure how often this occurs:
"The practice of internalization is prevalent in the Nasdaq market where Nasdaq market makers, who often pay for order flow or are sent order flow by an affiliate, trade proprietarily against incoming customer orders. NASD rules do not require Nasdaq dealers to expose their internalized orders to competitors."
On the markets - since so much retail volume is off the market, yes, the market maker has to price improve, but it's against a less than full picture of the market for thinly traded items.
Institutional traders are the ones hurt by all of this. HFT latency arbing every single sniff you put out, front running every fill. PFOF has removed the uninformed order flow for hedge funds to trade against so they’re left trading against each other, or getting their lunch eaten by the aforementioned HFT.