Periodic auctions have grown rapidly in Europe, but what separates a high-quality periodic auction from one that simply generates volume?
Volume is an important indicator of adoption and usage, but it should not be confused with execution quality. Periodic auctions exist to help investors find liquidity with limited market impact, not simply to maximise the number of auctions that are triggered.
Julian Butterworth
From a market microstructure perspective, a venue that attracts a lot of auctions but generates high failure rates, excessive order cancellations or poor post-trade outcomes may create the appearance of liquidity without actually delivering reliable execution.
The more relevant questions are how often available liquidity actually trades, and what happens to prices after the execution. Those metrics are far more closely tied to investor welfare than raw auction volumes are. The evidence in our study suggests venue design can materially affect both auction completion rates and post-trade adverse selection.
Your research found significant differences in auction success rates across venues. Why should traders care about how often an auction actually completes?
Because success rates measure how reliably trading interest can be converted into an execution. Some level of auction failure is inevitable – prices move, orders change, participants revise their intentions – but the key questions are how often an auction fails and what the underlying reasons for that failure are.
From a trader’s perspective, failed auctions create several costs. They increase uncertainty around execution and adverse selection risk, and they may force participants to reroute orders or seek liquidity elsewhere. In economic terms, they increase search costs and reduce the expected value of available liquidity. More broadly, success rates tell you something about execution quality. Two venues may attract similar trading interest, but if one converts a larger share of that interest into completed trades, participants there may experience greater execution quality.
The study suggests that venue design can influence adverse selection. What are the key mechanisms driving that outcome?
Adverse selection arises when one side of a trade is systematically exposed to trading against more informed or opportunistic counterparties. That creates a cost, because trades tend to occur precisely when the other participant has a superior assessment of value.
Venue design matters here because it influences how information is incorporated into the trading process, and how participants are able to respond to new information during the auction itself.
Nasdaq Auction on Demand is designed differently to the others out there in two respects. First, auctions are only triggered when two crossing orders are already present, so there is genuine matched interest before the auction process begins, and until that match is found, the orders remain hidden. Second, we apply speed bumps on cancellations and size reductions, which limit the ability of participants to withdraw liquidity once a match has been identified. Together, those features increase the credibility of the liquidity in the book and reduce adverse selection risk for both sides of the trade.
Retail participation is often discussed in the context of liquidity. What did your research reveal about the role retail flow can play in execution quality?
Retail flow contributes more than just additional liquidity. You want a diverse mix of participants in these order books, because that reduces information asymmetries and lowers adverse selection risk for liquidity providers. The research found strong evidence that as retail participation in our Nordic@Mid dark pool increased, post-trade price impact declined, which suggests greater retail involvement was associated with less toxic trading conditions and better execution quality.
The Nordics are quite special in that respect; we see up to 20% retail participation in the lit book. In April 2024 we introduced sweep functionality that sweeps the dark book before going down to the lit book, atomically, and retail market share in Nordic@Mid grew from 6% to 13%. We introduced the same functionality for Auction on Demand in June, and retail market share there has already moved from around 1.5% to as high as 10% on some days. We would expect that to keep growing towards the sort of level we see in Nordic@Mid, and that is genuinely unique liquidity that the banks and the liquidity providers want to interact with.
As buy-side firms continue to review their execution strategies, what should they be looking for when evaluating periodic auction venues?
They should look beyond fill rates and market share, and focus on the quality and reliability of the liquidity being presented. What is the cost of exposure of orders? How vulnerable is that interest to cancellation? And what happens to prices after the execution?
Venues that reduce opportunistic behaviour and adverse selection can offer greater execution certainty and lower implementation costs. Investors should also consider the composition of the order flow. A venue with a broad mix of natural institutional and retail participants can offer more diverse liquidity, and potentially better execution outcomes, than one dominated by a narrower set of trading strategies.
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