How can a person buy or sell shares on the stock exchange?
Say you are interested in buying shares in Company A whose shares are traded on the exchange. You contact one of the Brokers of your choice. The Broker may require you to set up an account with them. Once you have an account, you indicate that you wish to trade by placing an order. This may be by simply calling your Broker and placing your order over the phone. However, typically a Broker will require that you deposit the consideration for the shares (if buying) or lodge the share certificate (if selling) before they will deal on your behalf. The Broker then records your order on their order log which contains details of the order such as your name, order reference, date, time the order was made, quantity, status (buy or sell) and price.
The next step for the Broker is to take your order and see if they can find a matching order in house – in this case a seller with matching quantities and price. If the Broker finds a matching order then they would execute this in their office – this is known as a “Cross”. They then fill out a report of the trade and submit it to GASCI before the start of the next trading session. However, if the Broker does not find a match in-house he then takes this order to the exchange.
Limit Orders and Discretionary Orders
When placing an order a customer can either specify a price limit or give the Broker discretion. “Limit orders” are orders received by the Brokers with a determined price specified by the customer; for a buy order the Broker cannot go above the stipulated price specified by the customer and for a sell order he cannot go below.
Discretionary orders are orders received by the Brokers which give them the leeway to negotiate the most favourable price be it for a buy or sell order
If a customer instructs the Broker to deal at “Best” they are indicating that they are prepared to deal at what ever price is currently offered or bid in the market.
GASCI supports two types of trading, a Single Price Auction (also called an opening price) and on-floor trading via limit order book.
How do the Brokers determine which orders should be dealt with first?
Orders must be dealt with based on price and time priority. Time priority is determined by the sequence in which the Broker receives the orders from their customers. The Broker ensures the sequence is adhered to through recording the orders as they arrive in their order log. Price Priority is determined in descending order of price for bids (order to buy) and ascending order of price for offers (orders to sell).
Price priority takes precedence over time priority. So for two buy orders the order with the higher price takes precedence – even it was received after a buy order at a lower price. For two orders at the same price the one which was received earlier would have higher priority.
Who is involved in trading sessions on the exchange?
On the exchange the Market Official is responsible for supervising the activities on the Trading floor and to open the trading session that will facilitate trading to take place between the Brokers representing the interest of the customers on the floor.
The individuals who will trade on the floor on behalf of the Brokers are called Representatives and must also be registered as such with the Guyana Securities Council and GASCI.
Single Price Auction
If it is difficult to fairly allocate orders by time priority eg if there is a large build up of orders prior to the trading session the Board may invoke a Single Price Auction. The Market Official will run a Single Price Auction before on-floor trading commences.
After the Representative takes the order to the floor he/she then enters the order in the single price auction. The purpose of the Single Price Auction is to derive the price at which the most limit orders are traded. Note that in a single price auction only price priority is adhered to, time priority is ignored. The Market Official may calculate an indicative price which gives the Brokers an idea of what the price and quantity traded will be. The Brokers can then amend their discretionary orders to try to fill as many orders as possible. The Market Official then runs the Auction proper which determines the opening price and the amount of each order entered which has been filled.
If any order remains unfilled then it will be brought forward into on-floor trading.
How are orders dealt with in on-floor trading?
Orders are exposed to other Brokers via the limit order book display which is also based on price and time priority. Time priority between Brokers is determined by the sequence in which the Brokers enter their orders onto the system ie the first Broker to enter an order at a particular price has priority at that price. Price Priority is determined in descending order of price for bids and ascending order of price for offers.
A buy order at a higher price has priority over a buy order at a lower price; similarly, a sell order at a lower price has priority over one with a higher price.
On-floor trading on the exchange
For trading to begin the Market Official must open the session to allow access by the Brokers to commence trading on the exchange. Once the session is open the Brokers can view the orders of the other Brokers. Where there are orders that can be matched against other Brokers orders the Brokers will deal with each other.
First the Broker checks the limit order book to see if any other Broker has an order to which the first Broker’s order can be matched for eg the buying Broker checks the Limit order book to see if any Broker is selling at that price. If not then the Broker enters the order on the system which allows the other Brokers to see this order on the limit order book display.
One of the Brokers may wish to deal because he has a matching order to sell or one that does not specify price but gives him discretionary power to make a match. If a Broker responds to an order on the book they are termed the responding Broker. The responding Broker prepares a trade report and passes to the initiating Broker (the Broker who put the trade on the book) – in our example this is the buying Broker to sign. The trade report with the initials of both Brokers in this case confirms the trade between the two Brokers.
The trade report is given to the Market Official who checks it thoroughly to ensure its validity and then he enters it into the system as a confirmed trade and generates a market contract. The market contract together with the details of the seller prepared by the selling Broker forms the transfer form which provides the customer with proof of ownership of shares bought.
Settlement of trades
Prior to the opening of the exchange transactions in securities were exclusively “client side” between investors; settlement between investors, mediated through Brokers and registrars, now that the stock exchange has begun its operations there will be transactions between members of the market and settlement will be between members of the market, “market side” settlement.
Client side settlement
Without a stock exchange settlement of transactions is either between Brokers and investors or between investors themselves with the assistance of the company secretaries or registrars. The Broker or registrar typically acts for both buyers and sellers. They collect the stock from the selling investor and pass it with a transfer form with details of both buyer and seller to the company registrar for deletion of the seller’s holding from the shareholders list, for entry of the buyer’s holding on the list and for issuance of a new certificate to the buyer. Payment arrangements are at the discretion of the Broker or registrar: typically money would be collected from the buyer in advance and a stock certificate with a transfer form would be obtained from a seller either (a) after the Broker has matched a buyer’s order with the seller or (b) on delivery of the new stock certificate by the registrar.
Market side settlement
Stock markets cannot rely on client side settlement alone because it’s too slow and investors who trade in a stock market would want to be able to sell stock that they would have bought without delay, without having to wait for certificates to be delivered.
In market side settlement the Brokers settle with one another on a settlement date determined by the market rules and in accord with the principle of delivery versus payment (stock must only be delivered when money is received or visa versa). This is why fulfilment of settlement between Brokers would require only stock transfer forms and cash but not stock certificates which will follow a different path and need only be involved in fulfilment of client side settlement.
Thus, when there is a central market the sequence of events is as follows: client gives order to broker with cash or stock; broker executes order with another broker in the market, brokers settle between themselves on settlement day, brokers settle with their clients thereafter.