Block J · Market structure & trading
‹ NadirAlpha financial markets handbook: overview
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Market structure is the mechanics behind every price; whoever knows it trades more cheaply and interprets prices correctly.
131 · Exchanges vs. OTC
Exchange = a central, regulated trading venue with a public order book; OTC = bilateral trading (bonds, FX, derivatives predominantly).
Determines transparency, price discovery and counterparty.
Bond "prices" on screens are often indicative; tradable is what a dealer quotes.
Confusing indicative OTC prices with executable exchange prices.
132 · Market makers & liquidity · 133 · Bid-ask spread · 139 · Best execution
132 · Market makers & liquidity
Dealers who quote binding buy and sell prices and live off the spread.
A liquidity source beyond natural buyers/sellers.
Market makers thin out in stress phases; liquidity is procyclical.
Extrapolating today's liquidity to the crisis case.
133 · Bid-ask spread
The difference between buy and sell price; the immediate trading costs.
Cost control; a liquidity indicator.
Spread + market impact = true transaction costs; for bonds often larger than any fee.
Comparing only order fees, ignoring spreads.
132 · Market makers & liquidity · 139 · Best execution
134 · Order types (limit, market, stop)
Market = immediately at the best price; limit = a price boundary; stop = a trigger order (becomes a market order!).
Execution control per situation.
Stop orders do not protect against gaps; execution can be far below the stop.
Trading illiquid securities with market orders.
135 · Settlement (T+1/T+2) & clearing
Fulfilment of the trade (USA T+1 since 2024, EU predominantly T+2, switch to T+1 planned for 2027); clearing via central counterparties reduces default risk.
Liquidity and FX planning (value date differences!).
T+1 USA vs. T+2 EU creates funding/FX gaps in cross-border transactions.
Not synchronizing value dates when shifting between markets.
136 · Custody/account structure
A chain of custodian bank, (inter)national central securities depositories; segregated fund assets vs. notes decides in insolvency.
Safety and operational capability (corporate actions, taxes) of the custodian.
Fund units/securities are segregable; deposits and certificates are not.
Thinking through custody risk only in a crisis.
137 · Indices & benchmarks (construction, weighting)
Rule-based market representations; weighting by market capitalization (standard), equal-weighted, factor- or price-weighted (Dow).
A yardstick, the basis for ETFs, target market definition.
Construction rules create properties; cap weighting = momentum/concentration tendency.
Choosing a benchmark whose rules one does not know (concentrations! check the top 10 share).
48 · ETFs (physical/synthetic) · 41 · Sector logic (GICS/BICS) · 141 · Strategic vs. tactical asset allocation
138 · Fixings (WM/Refinitiv, BFIX, Bund auctions)
Reference prices at fixed times (FX fixings, bond auction results, closing auctions in equities).
Valuation (NAV), benchmark replication, settlement.
Volume concentrates around fixings; good for execution close to the reference, prone to distortion.
Valuing the portfolio against a fixing but trading at other times; price in the deviations.
139 · Best execution
The obligation (MiFID II) to execute client orders at the best possible overall result (price, costs, likelihood).
A basis for claims against banks/brokers; internal evidence for own execution.
"best possible" is a process promise, not a single-case promise; policy and controls count.
Never spot-checking best execution.
140 · Primary vs. secondary market
First sale of new securities (issuance) vs. ongoing trading of existing ones.
New issues sometimes offer premiums (NIP for bonds), the secondary market determines the ongoing valuation.
Allocation logic in the primary market favors large/loyal orders; the NIP fluctuates with market conditions.
Comparing the new issue yield with the secondary market curve without quantifying the premium.