4 ms·

This is not efficient. If you use interval bidding, there will frequently be gaps in market prices. Remember that at any instant, the order book (bids and asks)

This is not efficient. If you use interval bidding, there will frequently be gaps in market prices. Remember that at any instant, the order book (bids and asks) represents only a small portion of market sentiment (real demand and supply). The market prices move smoothly when people are able to react to order changes and price spikes. If it's a black box, it's very easy to manipulate the market in a massive scale. For example, AAPL is $600 now. Under your system, $600 is the price that generated the highest volume in previous bidding event. (There will be sellers placing orders under $600, and buyers over $600 - they'll all be settled at $600 and the exchange obviously wants to maximize this overlap, hence the price). If a large institutional investor wants to manipulate the price, he can place huge buy and sell orders at $700. And very likely in the next bidding event the price of AAPL will move to close to $700, because that will be the price that maximizes the overlap. This is almost impossible in current market system, because you have to continuously buy from all the sellers who are willing to sell at $700 to get the price. Meanwhile, traders (especially day traders) will add to the order book to take advantage of this irrational move. In a black box, irrational moves can't be detected and corrected by other market participants. So you can't really get the idea of the actual matching price in a black box system. When you place a buy order, if there's overlap with any sell orders, it should be matched and executed instantly. Otherwise it will stay in the book to wait for sell orders. The market equilibrium is reached when the spread is minimal and no trade occurs. (Yes, this is in theory.) However, in your "efficient" system, there's no market equilibrium, because buyers and sellers are discouraged from making their real demand and supply invisible. The exchange has the incentive to maximize trade volume, so the only way to result in zero volume is no overlapping orders in the entire interval, even when the buyers are sellers have no knowledge of any orders. This only happens when people have no confidence or interest to trade at all. Again, it makes market vulnerable to be manipulated. In China, stock exchanges partially adopted your idea. In Shanghai Securities Exchange, the first 10 minutes (9.15am to 9.25am) of the day is set to be non-continuous bidding period. In Shenzhen Securities Exchange, the first 10 mins and last 3 mins are the same. This was introduced to reduce market manipulation because the order book is empty at the beginning of the day. However, after the period, trade starts continuously and all remainder orders in the bidding event will automatically enter the order book. This way, the price movement of the whole day is smooth with minimal spikes, while the opening and closing prices reflect market sentiment more accurately. Generally, the more the visible orders, the more smoothed the price. Interval bidding discourages order placement because the next price is absolutely unpredictable. It can be adopted in extremely illiquid market situations though.

nhaehnle 14y ago
This is why we have Game Theory and Mechanism Design. Mathematicians and computer scientists study the different types of auction methods for their properties. Let's take a look at your example: AAPL is $600 now. (...) If a large institutional investor wants to manipulate the price, he can place huge buy and sell orders at $700. All your example shows is that a good auction mechanism should avoid this possibility of manipulation. But that's easy enough: the investor's buy at $700 will be matched with sells that are closer to $600, the same as in the current system. The sell at $700 doesn't affect anything. So in fact the price will move the same as it would in continuous buying.
- zhoutong 14y ago
  Not exactly. In a black box, there will be less orders because market participants are discouraged to be market makers, because the point their orders have been triggered is also likely the point the market deviates significantly and they have no chance to cancel or stop loss immediately in a non-continuous market. Market makers are resistance of such manipulation. And most market makers place orders to fill the "gaps" in the order book. Without a visible order book, it's much more risky to provide liquidity without any actual demand or supply for the shares. I think it's okay to assume that less than 1% of traders place orders based on real supply and demand. You know you would sell AAPL if it spikes to $700 today, but you won't place an order until that happens. (The financial market is an incomplete coverage of demand and supply anyway, so the more liquidity, the better.)
  - bokonist 14y ago
    AAPL is $600 now. (...) If a large institutional investor wants to manipulate the price, he can place huge buy and sell orders at $700. To what profit? The investor would lose their shirt. Let's say period A had 20 shares sold and 20 shares bought at around ~$600. Period B the investor enters with 50 shares being sold at min price $700.00 and 50 shares being bid on at max price $700.01. In period B there are also another 20 shares from other people being offered at min price $600.10 and 20 being bid on at $600.00. The auction runs and the most seller advantageous clearing price is $700. The institutional investor gets 20 shares from the $600.10 but at the clearing price of $700. The investor exchanges 30 shares between his right and left hands. So overall, the investor has on net bought 20 shares at a ridiculously inflated price. This was a stupid, money losing strategy for the investor. You know you would sell AAPL if it spikes to $700 today, but you won't place an order until that happens. Why not? Under my system, at every interval you could simply put a limit order in for selling at a minimum $700. In fact, I suspect a few hedge funds would pop up that specialize in figuring out a true and accurate price of a stock according to the fund's analysis, and then placing, constant, across the board limit orders that would automatically snap up shares in the case of irrationality. If the market was as jump and irrational as you think it would be hedge funds would make a killing by being smart and rational, until enough entered the market with standing limit orders that the price smoothed out. Without a visible order book, it's much more risky to provide liquidity without any actual demand or supply for the shares. And yeah, under my system market making actually requires work/risk, not just riskless front running. The free lunch is gone. That is the point. There would be less volume. Buyers and sellers would trade slightly slower trade execution (waiting for the auction interval) for the benefit of not paying any tax to market makers.

nhaehnle 14y ago

This is why we have Game Theory and Mechanism Design. Mathematicians and computer scientists study the different types of auction methods for their properties. Let's take a look at your example: AAPL is $600 now. (...) If a large institutional investor wants to manipulate the price, he can place huge buy and sell orders at $700. All your example shows is that a good auction mechanism should avoid this possibility of manipulation. But that's easy enough: the investor's buy at $700 will be matched with sells that are closer to $600, the same as in the current system. The sell at $700 doesn't affect anything. So in fact the price will move the same as it would in continuous buying.

zhoutong 14y ago
Not exactly. In a black box, there will be less orders because market participants are discouraged to be market makers, because the point their orders have been triggered is also likely the point the market deviates significantly and they have no chance to cancel or stop loss immediately in a non-continuous market. Market makers are resistance of such manipulation. And most market makers place orders to fill the "gaps" in the order book. Without a visible order book, it's much more risky to provide liquidity without any actual demand or supply for the shares. I think it's okay to assume that less than 1% of traders place orders based on real supply and demand. You know you would sell AAPL if it spikes to $700 today, but you won't place an order until that happens. (The financial market is an incomplete coverage of demand and supply anyway, so the more liquidity, the better.)
- bokonist 14y ago
  AAPL is $600 now. (...) If a large institutional investor wants to manipulate the price, he can place huge buy and sell orders at $700. To what profit? The investor would lose their shirt. Let's say period A had 20 shares sold and 20 shares bought at around ~$600. Period B the investor enters with 50 shares being sold at min price $700.00 and 50 shares being bid on at max price $700.01. In period B there are also another 20 shares from other people being offered at min price $600.10 and 20 being bid on at $600.00. The auction runs and the most seller advantageous clearing price is $700. The institutional investor gets 20 shares from the $600.10 but at the clearing price of $700. The investor exchanges 30 shares between his right and left hands. So overall, the investor has on net bought 20 shares at a ridiculously inflated price. This was a stupid, money losing strategy for the investor. You know you would sell AAPL if it spikes to $700 today, but you won't place an order until that happens. Why not? Under my system, at every interval you could simply put a limit order in for selling at a minimum $700. In fact, I suspect a few hedge funds would pop up that specialize in figuring out a true and accurate price of a stock according to the fund's analysis, and then placing, constant, across the board limit orders that would automatically snap up shares in the case of irrationality. If the market was as jump and irrational as you think it would be hedge funds would make a killing by being smart and rational, until enough entered the market with standing limit orders that the price smoothed out. Without a visible order book, it's much more risky to provide liquidity without any actual demand or supply for the shares. And yeah, under my system market making actually requires work/risk, not just riskless front running. The free lunch is gone. That is the point. There would be less volume. Buyers and sellers would trade slightly slower trade execution (waiting for the auction interval) for the benefit of not paying any tax to market makers.