What is continuous trading?
Continuous trading meaning
Continuous trading involves the immediate execution of trading orders. The trade stands executed as soon as an order is placed, and the buyer immediately becomes the stock owner. Even in the case of a limit order, as soon as the stock reaches its limit price, the trade is executed, and the buyer becomes the rightful owner of the stock. Continuous trading is suitable for highly liquid instruments.
Batch trading vs Continuous trading
Batch trading involves executing a batch of trades. This type of trading is a feature of the market opening session. Overnight transactions are collected, and prices are matched to complete as many trades as possible right at the beginning. Continuous trading, on the contrary, executes all orders as and when placed.
The market-making process
The market-making process lies at the heart of continuous trading. The buyers ‘bid’ for a price, and the sellers ‘ask’ for a price. Market makers match interested buyers and sellers based on their bid and ask rates. This process is also commonly known as the bid-ask process. The difference between the bid and ask price, known as the spread, is the profit that the market makers make.
The advantage of continuous trading
The major advantage of continuous trading lies in its swiftness. The trades are executed as soon as orders are placed. The parties to the transaction do not have to wait. This becomes especially important when stock prices tend to fluctuate rapidly and wildly. Waiting for batch trading to execute the orders can change the fortunes of the buyers and the sellers.
The problem with continuous trading is the increased cost of placing small, isolated orders. It is easier for market makers to match one big order than to check 100 small orders. Each time a trade is executed, the parties to the transaction pay a commission to the brokers. The individual investor ultimately bears the cost.
It is essential to understand the various types of orders that investors can submit for initiating a continuous trade:
- Market orders are executed instantly for continuous trading as the investor agrees to the market price.
- Limit orders are executed upon fulfilment of specific criteria. For limit orders to be accepted for continuous trading, the limit price set by the trader must become equal to the prevailing market price. Thus, a limit order from an investor will be executed in the continuous trading market only when the specified rate is available.
Phases in continuous trading
Continuous trading consists of an opening auction, continuous trading and a closing auction.
- The opening auction comprises the call phase followed by the price determination phase. During the call phase, buyers and sellers enter new orders or change old ones. During the price determination phase, the bid and ask prices are matched.
- The trade is executed during the continuous trading phase at the price determined in the opening auction phase. The trade concludes as soon as an order on the buy-side is at least partially executed with an order on the sell-side.
The possibility to match the bid and ask prices is monitored continuously in the trading system. Orders are sorted based on prices and the time of their placement. Buy orders with a higher bid price are prioritised over buy orders with a lower bid price. On the contrary, sell orders with a lower ask price are prioritised over sell orders with a higher ask price. When several orders are entered with the same limit, the orders entered first take precedence over orders placed later. In other words, orders are executed on a first-come-first-serve basis.
- A closing auction has the same characteristics as the opening auction.
Continuous trading is a feature of the main trading session. It enables trade execution as soon as orders are placed. It is considered a very efficient trading model as it clears the maximum possible trade volume immediately.