Highlights

  • A missed opportunity is when two or more opposite-side orders (a buy and a sell in the same symbol) were in the system on the same day and did not trade

  • We measured the total unmatched quantity (shares) resulting from two different types of missed opportunities: time and marketability (limit price)

  • Between January 2017 and June 2017, missed trading opportunities due to time (one order cancels and the contra-side shows up after the fact) amounted to 652 million unmatched shares (double counted). The largest bucket of unmatched shares were the occurrences where orders missed one another by less than 30 minutes

  • Over the same period, missed opportunities due to marketability (limit price) amounted to 213 million unmatched shares. In the majority of these instances, the unmarketable limit was one sided, meaning one of the parties was marketable. Additionally, limits that were within $0.05 of being marketable were responsible for the greatest amount of unmatched shares

Introduction

Failure to consummate a trade is one of the least desirable outcomes for any trader, but perhaps even more frustrating is knowing that a trade could have happened, but didn’t.

From a trader’s perspective, it would be valuable to know if he or she missed a sizeable counter-party by just a few minutes or that a slight adjustment of a limit by $0.01 would have generated the opportunity to unlock a significant amount of liquidity.

What if traders knew what could have executed? Then, received insight regarding what may have prevented those trades from taking place?

Today, most buy side desks use some form of venue analysis to optimize the allocation of order flow across various trading venues, but obtaining a complete and accurate assessment of any dark venue is still a challenging task. One reason is that dark venue order books are, well, dark. Another reason is that most evaluation methods use data and assign metrics that can only reveal information around what executed. Having information around missed trading opportunities would provide a much better view into a venue’s true liquidity potential and improve workflow by providing a way to use the venue more effectively, which is one of the primary goals of venue analysis.

Our subscribers frequently ask us what the best way to use Luminex is for achieving the maximum number of trading opportunities. We realize that traders have an obligation to go where the liquidity takes them and that workflows and liquidity needs vary from trader to trader, so we decided to take a slightly different approach – examine what almost traded and then figure out why it didn’t.

We found missed trading opportunities at Luminex were primarily due to one of two reasons: time or price. We discuss the importance of these missed opportunities, why they occur, and ways to prevent them from happening in the future.

Timing

What is a missed timing opportunity?

The definition of a missed timing opportunity is the instance where, on the same day, two opposite-side orders in the same symbol were present in the pool at different times, and, both orders were marketable relative to the arrival of the second order. We measured the unmatched share amount and categorized it by the length of time between one order’s arrival and the other’s departure. Here is an example:

• 11:00 AM – Trader A submits BUY 200,000 XYZ @ MKT

• 11:30 AM – Trader A cancels BUY 200,000 XYZ @ MKT

• 11:45 AM – Trader B submits SELL 100,000 XYZ @ MKT

Missed Quantity = 200,000 shares (100,000 shares maximum allowable execution per side)

Missed Time Interval = 15 minutes, the time between the cancellation of the BUY order by Trader A and the submission of the SELL order by Trader B

What does the data show?

Between January 2017 and June 2017, missed trading opportunities caused by time amounted to 652 million unmatched shares. Most important was that over 40% of the unmatched shares occurred in the two shortest time intervals: 30 minutes or less and between 30 and 60 minutes. An example of a missed opportunity in the less than 30-minute bucket would be after the cancellation of an order, a contra-side showed up 10 minutes later. An example in the 30-60 minute bucket would be if one party cancelled an order, a contra-side showed up 40 minutes later. What we found notable was that most of the unmatched shares were from orders that missed one another by less than 30 minutes (see chart above).

What does this mean? The data serves as a reminder of our unique design compared to other pools in that briefly sending an order to Luminex and shortly cancelling afterward for lack of execution, while at times necessary, is not the most effective way to source our available liquidity. In fact, we would argue the opposite. Compared to the broader market, institutional orders are significantly larger than average and often take hours if not days to complete. The fact that the majority of unmatched shares occurred in the two shortest time intervals tells us that more than likely counter-parties are trading their respective orders around the same time and meaningful block liquidity is available.

The data also emphasizes our continued point raised in an earlier note that there are plenty of orders entered on both sides of the market and the assumption that all long-term traders would be on the same side again is not borne out by the evidence we see.

Why is timing important?

The circumstances surrounding missed trading opportunities can depend on many factors, but in many of our discussions, a common opinion is that they happen because the market lacks a sizable counter-party or that the contra-party – if one were present – has already completed the order.

Variations in order creation times are common – e.g. a PM at Firm A creates a BUY order at 10:30am and the PM at Firm B creates a SELL order at 2:30pm – and were likely one of the circumstances that contributed to the missed opportunities in our data set where the cancellation and arrival times between orders was longer in duration.

Regarding shorter completion times, participants’ ability to access multiple venues at once and the rise of conditional orders have led to higher and faster fill rates. Shorter completion times, depending on how you look at it, can be both a blessing and a curse. Immediate access to liquidity is one of the benefits of modern trading that has helped traders complete orders with a higher degree of urgency – for instance a new order in a relatively illiquid stock received at the end of the day. However, instantly available liquidity has augmented traders’ fear of missing any volume and consequently has encouraged the appeal of an instant execution, no matter the size.

Tape volume – no matter when or how small – is still volume, so the need to participate can often take precedence over the desire to wait for meaningful block liquidity, even in the middle of the day when liquidity is at its lowest levels. Only 55% of market volume trades between 10:30am and 3:30pm, which is most of the trading day. And as the day progresses, the average trade size declines by over 37% (see below). Tape volume is often difficult to discern – like retail/wholesale volume – and could easily give the appearance of trading activity, so participation during times of low liquidity may instigate volume. Therefore, being that a significant amount of volume trades at the beginning and the end of the day, timing and the ability to prevent missed trading opportunities is that much more important.

Misses due to Marketability (Price Limits)

What did the data show?

A missed opportunity due to marketability is an occurrence where two opposite-side orders (a buy and a sell) are present in the system at the same time, but a limit on one or both of the orders is preventing it from trading, including the opportunity to negotiate.

The total number of unmatched shares caused by unmarketable limit prices was 213 million shares, roughly a third of the total shares that missed due to timing. In most of the cases, the restricting limit was only on one of the orders, meaning the contra-side was marketable. In fact, over 25% of the unmatched shares were due to instances where the order with the restricting limit was relatively close to being marketable (less than $0.05 away).

Not all limits are equal: The same limit at different venues could produce different outcomes

In some cases, limits are black and white, like an order with a firm limit from a portfolio manager, and some limits are more flexible and often dictated by the trader. Additionally, synthetic limits are often part of an underlying strategy and used to account for differences between venues, reduce the likelihood of information leakage, and allow for greater participation.

Limits are not as simple as they used to be. We have come to realize that the characteristics and logic that may be unique to a venue can affect execution results – for instance a limit used in conjunction with a certain order type. In other words, all things being equal, sending two identical orders with the same limit to two different venues could produce two different outcomes.

Clients often ask why an execution will take place at another venue but not at Luminex. One reason could be limit price. If the logic that dictates whether to generate a block trading opportunity – in other words, the “pop-up” – differs between venues, it is entirely possible that only one venue will produce the chance to trade. This variation, while seemingly benign, can make all the

difference. For example, let’s say the NBBO is $10.00 – $10.10 and a trader has an order to BUY 100,000 XYZ @ $10.00. In this case, the trader would not receive a block trading opportunity from Luminex because the limit price is below the midpoint of $10.05. On the other hand, another venue may have logic or instructions in place that allow the generation of an opportunity since $10.05 is technically at the NBBO.

It is certainly worth noting that much of this information is already available being that most firms either publish their Form ATS online or provide it upon request. Frankly, transparency and disclosure have never been better. However, most of the ATS documents in their current form include an overwhelming amount of detail and very few traders have ample time to sort through dozens of pages finding the subtleties of each venue’s matching logic.

How do I prevent a miss?

The majority of clients have missed more shares than they actually traded, which makes the prevention of future misses a worthwhile exercise. Preventing misses boils down to two things: resting time and actionable limits.

To prevent timing misses, resting a small piece of an order will go a long way, particularly when an order is working in the marketplace.

Prevent marketability misses will be a unique solution for every trader, but the key is that Luminex determines marketability based on the NBBO midpoint. In other words, orders with near side limits are not marketable, even though they may have been initially.

Download printer-friendly pdf version here.

Anna Ziotis Kurzrok
Senior Strategy & Senior Sales
Luminex Trading & Analytics LLC

For investment professional or institutional investor use only. Not authorized for distribution to the public as sales material. Luminex Trading & Analytics LLC Member FINRA, SIPC