I see a lot of references out on the web about how seeing block trades–especially at the ask–is a good sign for going long. But, without a vigorous trade rate to back it up, it’s not so!
Today, I was stalking FIS to go long above 48, and I saw a 140,000 share print go by. At the time, that doubled the total volume for the day. So, I should hop right in, right? Especially if the trade is at the ask, right? In this case, not at all! Trades were not going off fast and furious in the wake of the big print.
It’s a Matter of Market Mechanics
Note: This is just my conjecture about what is happening, but it makes sense to me. Regardless, it’s the end result that matters, and I’ve seen it plenty of times. Of course, the markets rarely act 100% like you think they logically should. That can make things difficult, but I still love women all the same. Markets, I mean. Love the markets all the same. :-)
So, what happens when a very large buy order comes in (a size much larger than the typical ask for a given stock)? The market wouldn’t be very orderly if the Specialist let it just eat through ask levels. Instead, they supply the needed liquidity by selling their own reserve shares to the buyer. What’s important here is that now our market maker effectively has a large short position on. Which direction do you think he wants the stock to go, then? Down, that’s where! I imagine the market maker will do whatever is in his power to keep the stock down until he can buy back the majority of that position at a lower price. The hybrid market must make that harder for the NYSE specialists to do, but they still have influence.
In today’s FIS case, I noted the volume at the block print (the one just before 10am). I decided that the next unhindered push at 48 would only happen after 150k to 200k more shares had traded. In fact, that’s exactly what happened… when the stock pushed to 48 again around noon. Of course, that push failed, too, and I lost interest in the stock and went to sleep.
What If Demand Is Too Great?
Now, consider the case where the Specialist fills the block order, and there is so much demand that he can’t easily keep the stock down. Many small and medium size buyers are piling on left and right, and prints are going off quickly. Now, the specialist will eventually have to give in and buy back the shares he had provided at a loss. Not only does this alleviate the downward pressure he would otherwise apply, but it actually helps fuel the run up!
That’s why I say you need to have energetic small-timers buying at the time of the big block trades, for them to do you any good. If the other buyers are standing aside, whoever just made the market for that block buyer will certainly push the stock down to make some easy money.
The Logic Works in Reverse, Too
If a big block goes by at the bid, then there must have been a large seller. Bearish sign, right? Just reverse the logic, to see that we may now have a greedy market maker with a large long position. They will try to prop the stock up long enough to sell those shares at a higher price.
April 15th, 2007 at 4:51 pm
Very interesting. I’ve never considered that “misconception” in that way. I agree with your logic, and will have to start paying more attention when these blocks go through.
April 15th, 2007 at 6:13 pm
@Woodshedder: thanks, I’m glad you liked the article.
April 18th, 2007 at 2:32 pm
Interesting post but I can think of several other ways to rationalize this phenomenon. For example, what if the strong bid preceding the collapse was the mm accumulating for the block order. Mr. mm stops buying and the bid weakens.
Also, why would the mm sell the block and put himself short, I doubt that’s in line with typical protocol. It’s all speculation to me but an interesting theory and observation none the less.
April 18th, 2007 at 5:21 pm
@mdawsz: The idea that the MM is accumulating for the block order, and then stops buying would explain some situations. In particular, the case where someone has coordinated the block buy behind the scenes with the MM. But, if I send in a big market order, they have to fill me, and don’t have the luxury of time to prepare for it. Also, in the cases I’m talking about, I see increased sell pressure, rather than decreased buy pressure. Remember, I’m talking about cases where the buying wasn’t all that vigorous. Your scenario does also happen, though.
On ERTS today I saw a 25k block go by about 10 cents below the bid. Within seconds, the price got shoved below the block trade price. After a minute or so (enough for someone to recoup 25k shares on ERTS) it popped back up. I just keep seeing examples… maybe because I am looking for them it’s biasing what I spot and what I miss.
As for why? The MM is in the business of making markets, so they would sell the block because that’s part of their responsibility as market makers. Note that they aren’t technically short… they’ve just sold off some of their reserve shares, and would like to buy them back at a lower price. I think of it as an effective short position, because I know they need to buy some shares to “complete” the transaction and end up fully stocked again. I suppose I’m clearer on the fact that NYSE Specialists need to act this way, than I am on Nasdaq MMs. Somehow, someone needs to create an orderly market, though, so someone must be performing that function directly or indirectly.
May 11th, 2007 at 6:14 pm
[...] looked like ask volume. Or, what if that volume actually came from block sales that a MM absorbed? As I’ve described elsewhere, that could lead to a price rise as the MM maneuvers to offload those shares at a higher price. By [...]
September 28th, 2007 at 11:35 pm
MM is not necessarily short the stock even if he did in fact sell those 140,000 to a buyer.
MM probably bought those 140,000 shares at a lower price prior.
Selling from inventory.
MM makes the spread on next 140,000.
“Misconceptions: Bullish Block Trades”, maybe exactly literal, bluff, suckers bet.
Another thought: maybe there were options involved in the trade.
Thanks. Nice article.
September 29th, 2007 at 7:19 am
@Jim, thanks. I am agreeing with your first statement… it’s not that they are short, but that they have sold from their inventory. And one possibility is that they don’t need to buy it back. Then, there is no effect. But another possibility is that they need to build up their inventory some after the sale. In that case, they will want to hold the stock down. So, if there is an effect from the specialist, it seems to me that it will be opposite the direction of the block trade. And, it’s what I see in the markets fairly often. Safest bet to buy after blocks go off at the offer is if many smaller prints are also going off very quickly, because the herd will nullify any specialist power to push down the stock, at least for the next few minutes.