Decimalisation

How could a fund buy a large set of shares?

Suppose a fund wants to buy 50,000 shares of company A. Before decimalization, the market may have looked like the summary in figure 2


Fig 2
In order to buy 50,000 shares, you have the following strategies:
Before decimalisation, lager players were moving the market, and you could see what they were doing. There was market depth (also called market visibility).
After decimalization, the scenario looks different. Let's suppose that the market book would be the following (20,000 shares at the Bid side and 22,000 shares at the Ask side, but separated into small orders placed at $ 0.01 intervals):

Fig 3

In order to buy 50,000 shares, you have the following strategies:

Decimalisation had the following consequences:
  1. It reduced the spread cost. As a result, bidding the price up was costing 6.25 times less than before
  2. The depth--the number of shares available at a given price--dropped significantly, because there was no advantage anymore for institutions to “show their hands” and place their orders in the queue. Indeed, when the spread was more important, a fund that wanted to buy shares had either to place an order at the Ask, increasing the price by $ 0.0625, or place an order at the Bid, but at the bottom of the queue. (Large exchanges respect the "first come, first served" rule, meaning that a new order takes the last position in the execution priority ranking of orders placed at the same price.)
  3. Block trading on the market became difficult and order fragmentation became the rule. Order fragmentation is when a fund places a large order by fragmenting that order into a series of smaller ones; these are usually placed at the Ask until a maximum limit is reached. When the limit is reached, the fund waits for sellers to appear and the price to decrease again before placing a new set of orders.


How can we detect what funds are doing?

The natural method used to detect if the volume is a buying or selling volume is to look at all the shares that were exchanges at the Ask as Buyers and all those that were exchanged at the Bid as Sellers. The difference represents the trend of the trades. Unfortunately, this neither provides information on the size of the original order nor indicates whether there was some price manipulation.

The Effective VolumeTM tool has been designed to detect a move by large funds and especially the direction of their move (buyers or sellers).