The long, promising evolution of screen-based trading1
1. How electronic trading has changed the world
Transparency for all
Transparency used to be for a very limited group. In the old world, the public never saw the limit order book. The best that traders and investors could see was the last trade, and they might be told the current bid and ask in the pit. Of course, specialists at stock exchanges held the order books for their stocks, which meant that they were the only market participants who could see them. Big floor brokers in the futures markets would see the portion of the order book created by their own customers’ orders, so again they had an exclusive view of at least the piece of the order book for the futures contracts they filled orders for.
But in the new electronic world, there is a lot more transparency and the public knows much more about resting limit orders than it did in the floor-based world. In fact, the exchange itself holds the entire limit order book,2 and it is technically feasible for it to show the entire book to the public. Largely due to bandwidth costs, exchanges have chosen not to reveal the entire order book, at least not for free. More data takes more space and wider pipelines so exchanges will often charge higher fees to supply deeper looks into the limit order book. In addition, the real time book has great value to traders, and exchanges are trying to get traders to pay for that value. As a concrete example, firms that wish to see the entire NYSE order book updated in real time can do so for $60,000 per year, while firms wishing to gain access to the full limit order book for the Euronext half of the trans-Atlantic exchange can do so for EUR 40,000.
Illustrating the bandwidth problem, the CME began its electronic trading venture by showing the best 5 bids and best 5 offers, along with quantities. When it acquired the CBOT in the summer of 2007, that rival exchange was showing twice the depth – the best 10 bids and offers. Due to congested pipelines, the CME had to reduce the view of the CBOT order books from 10 bids and offers to five as it migrated these products on to its electronic trading platform, GLOBEX. However, at the end of 2008, the CME required its market data vendors to switch over to the FIX FAST protocol, which compresses market data by 70% and allows more data to be distributed with the same bandwidth.3 This enabled it a few months later to begin converting all of its products, beginning with the CBOT products whose order book views it had previously reduced, back to the 10-best-bid-and-offer-CBOT standard.
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About Michael Gorham
Michael Gorham is Industry Professor and Director of the IIT Stuart Center for Financial Markets at the Illinois Institute of Technology. He is also Adjunct Distinguished International Professor of Finance at EGADE, the graduate business school of Monterrey Tec, at the Santa Fe Campus in Mexico City. In addition, he currently serves on the board of directors for the CBOE Futures Exchange in Chicago and, until July 2008, served on the board of the National Commodity and Derivatives Exchange in Mumbai, India. He serves on the business conduct committee of the Chicago Mercantile Exchange, the editorial boards of the GARP Risk Review and of Futures Industry magazine. He is regional director of the Global Association of Risk Professionals for Chicago.
He is co-author of two books; India’s Financial Markets: An Insiders Guide (July 2008) and Electronic Exchanges: The Global Transformation from Pits to Bits (May 2009), both published by Elsevier.
From 2002 to 2004, Mr. Gorham served as the first director of the Commodity Futures Trading Commission’s new Division of Market Oversight, a division of 100 economists, lawyers, futures trading specialists and others dedicated to the oversight of the nation’s 12 futures exchanges. Earlier, Mr. Gorham was an economist at the Federal Reserve Bank of San Francisco and vp of international market development at the Chicago Mercantile Exchange.
He has been involved in consulting projects to create a stock index futures market in India, establish a commodities market in the United Arab Emirates, evaluate the feasibility of Parmesan cheese futures in Italy, and to modernize financial markets in Egypt. He also served as Managing Editor of the Journal of Global Financial Markets.
He has written for newspapers, journals and magazines in Argentina, China, Japan, Mexico and the U.S. and has given talks on derivatives in 14 countries. After university, he was a Peace Corps volunteer working on an agricultural modernization project in Malawi, Africa. He holds a BA in English literature from the University of Notre Dame, an MS in food and resource economics from the University of Florida and a Ph.D. in agricultural economics from the University of Wisconsin.