QAI: The Anatomy Of A Terrible $500K Trade

July 11, 2012

Someone got taken to the cleaners on Monday, buying 16,000 shares of QAI. They could have avoided it. Here’s what happened, why and how you can avoid it.

 

Someone got taken to the cleaners on Monday, buying 16,000 shares of QAI—a trade that highlights the nuances of market-on-close (MOC) orders. They could have avoided it. Here’s what happened, why and how you can avoid it.

At 4:00:00 p.m. ET, around 16,000 shares of the IQ Hedge Multi-Strategy Tracker ETF (NYSEArca: QAI) were executed at $28.83—that’s $1.28, or 4.64 percent, more than its last traded price of $27.55 at 3:59:59 p.m. Eastern time. It was completely unwarranted.

At 3:59:59 p.m. ET, someone was offering 12,800 shares at $27.56. The fund’s underlying value didn’t change in that one second. At the end of the day, its net asset value was $27.50.

 

Time Exchange Bid Size Bid Ask Ask Size Trade
3:59:15
NYSE Arca
100
27.51
27.55
3,900
3:59:59
NYSE Arca
200
27.51
27.55
1,600
3:59:59
EDGA
$27.55
3,800
3:59:59
NYSE Arca
200
$27.51
$27.56
3,800
3:59:59
NYSE Arca
200
$27.51
$27.56
12,800
4:00:00
NYSE Arca
$28.88 *
16,077
4:00:00
Nasdaq
200
$27.51
$27.60
18,000

* NYSE Arca Market Closing Price                                                                        Source: Bloomberg


The trade was the result of a poorly executed market-on-close (MOC) order. MOC orders for NYSE Arca-listed ETFs are automatically entered into the NYSE closing auction, which is outside of the core trading session.

Unfortunately, orders in the NYSE closing auction are exempt from Rule 611: the Order Protection rule.  The basic idea behind the rule is to protect investors from faulty trades by comparing all nationally placed quotes.

If a better price exists for a market order, it gets routed to that exchange before it can get traded at its current exchange. In the case of the MOC trade in QAI, there was no protection—the trade was exempt because it occurred during the auction and not during the regular trading session.

It seems likely that the buy order was entered as a market order into the MOC NYSE closing auction. Had it been a limit order, the buyer’s limit would not have been $28.83, which means the final execution price would have been great news. Given that the last price was $27.55, a market order must have been behind that terrible trading strategy.

After a buy order is entered, NYSE alerts market makers that wish to participate in the closing auction. From there, market makers can begin to enter competitive quotes to match the buy order. The algorithm behind the auction system considers the size of quotes as well as the price.

A market maker can enter 100 shares offered at $27.55, but should another market maker offer 30,000 shares at $29.00, more than likely, they’ll get the bulk of the order. There are no second chances in the system. If you enter a market order into the auction, you’re trusting that there will be competitive quotes and adequate size as well.

 

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