Chapter 5
Market Structures
Trading sessions
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Trades take place during trading sessions.
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Continuous market sessions
Call market sessions
Continuous markets
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Traders may trade at anytime while the
market is open.
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Traders may continuously attempt to
arranger their trades.
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Dealer markets or quote driven markets are,
by definition, continuous markets.
Pros and cons of continuous
markets
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Pros for continuous markets
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Traders can arrange their trades whenever they
want.
• Information may be incorporated very fast into
prices.
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Cons for continuous markets
•
more volatile
Call markets
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Traders may trade in call markets only
when the market is called.
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You may have all securities called at the
same time or only some. The market may
be called several times per day.
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Used to open sessions in continuous
markets (Bourse de Paris, NYSE,…). Also
used for less active securities, bonds,….
Pros and cons of call markets
Pros for call markets
• Focus the attention of traders on the same
security at the same time.
• Less volatility
Cons for call markets
• Information may need a lot of time to be
incorporated into prices.
Execution systems
 The
execution system matches the
buyers with the sellers.
quote-driven markets
order-driven markets
brokered markets
hybrid markets
Quote-driven dealer markets
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In pure quote-driven markets, dealers
participate in every trade.
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Dealers provide all the liquidity and quote
bid and ask prices. Those quotes are firm
for some specified size, i.e., the dealers
must honor them.

If the investor wants to trade a different size,
there will be negotiation between the
investor and the dealer.

Buy orders decrease the dealer’s
inventory position whereas sell orders
increase the dealer’s inventory position.

The dealer can then attract or reject order
flow given her inventory position. The bidask spread’s placement will then reflect
her inventory position.
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When the dealer’s inventory position is
low, she sets both a high bid price and a
high ask price.
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When the dealer’s inventory position is
high, she sets both a low bid and a low
ask.
Examples of Dealer Markets:
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NASDAQ
London International Stock Exchange
(SEAQ)
OTC Bond Markets
Foreign Exchange Markets
General features of a dealer market
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Multiple dealers, geographically dispersed,
electronically linked.
No consolidation of trading: No “floor”.
Virtually all customer trades are with a dealer.
The dealer is the intermediary.
Customers rarely trade against other customers.
Dealers trade among themselves.
Regulation and transparency are poor relative to
floor markets.
Dealers may compete among themselves, but have
a lot of information and market power relative to
customers.
Dealer market: NASDAQ/SEAQ
Two or more market makers per stock
 Trades were mainly phone negotiated
 Roughly 95% of the volume went
through MM book
 No central limit order book.
 Small order execution automated, but
not larger orders.
 Complete decentralization
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Dealer obligations
Provide quotes during trading hours
 Offer “best execution”
 Report trades in a timely manner
 Fair communication

Order-driven markets (Ch. 6)
In an order-driven auction market, all traders
issue orders to the exchange.
 Buyers and sellers regularly trade with each
other without the intermediation of dealers.
 But dealers may choose to trade.
 Order driven markets may be organized as
continuous markets or as call markets.
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Brokered markets
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Brokers match up buyer and seller.
• Search is often required to match buyer
and sellers for less liquid items, and for
large blocks of securities
• Brokers specialize in locating
counterparts to difficult orders
• Concealed traders
• Latent traders
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Examples of brokered markets include:
• Block trading (stocks and bonds)
• Real estate
• Business concerns
Hybrid markets
Hybrid markets mix aspects of the various
structures.
The most common hybrid markets are
those with dealer-specialists.
 These markets are order-driven auction
markets in which the specialist must provide
liquidity under some circumstances.
 Most US stock exchanges and options
exchanges have specialist systems.
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Market information systems
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It is of utmost important that orders are not lost
and that order instructions are understood.
• Ticker symbols
• Order routing systems
• Order presentation systems
Screen-based trading systems – electronic
 Messaging systems – private messages
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The information created by trading is valuable.
Market data systems report trades and quotes to
the public
Markets sell information to data vendors
Data vendors offer broadcast and query services
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Broadcast services - Continuous
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Query services – on demand
Transparency is a key feature of markets.
• Ex ante vs. ex post transparency
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Price and sale feeds
Ticker tapes
Quotation feeds