Roughly one-fifth of stock-market trades are invisible to the average investor.
And that’s no accident.
For decades, the trading data distributed by U.S. exchanges to the public has not included trades of fewer than 100 shares — known as “odd lots.” These trades were once considered irrelevant because they were typically made by retail investors, bit players who were buying only a few shares at a time.
But a growing body of research suggests that a significant portion of trades now occur in odd-lot sizes, raising critical issues about market fairness and transparency. While the public does not see those trades, the most sophisticated investors can afford to buy access to them, creating a system of haves and have-nots when it comes to key trading data.
On Wednesday, the Securities and Exchange Commission reported that 18 to 24 percent of trades in the nine months ended June 30 were made in odd-lot sizes. That translates to about 4 to 6 percent of trade volume, the agency’s staff said in an analysis on its Web site.
A paper soon to be published in the Journal of Finance found that the missing trades are an acute issue among high-priced stocks, which investors are likely to buy in small amounts. For instance, nearly 53 percent of Google stock trades were not included in the public feed in 2011, according to the study.
“Some people are seeing a lot more than others,” said Maureen O’Hara, lead author of the study and a finance professor at Cornell University. “There’s a subgroup that has been getting this additional information, and the vast majority of the rest of us haven’t.”
These changes in trading patterns “snuck up on us,” said O’Hara, who initially released some of the study’s findings in 2011 with Mao Ye of the University of Illinois and Chen Yao of the University of Warwick in Britain.
Stocks typically have been traded in 100-share units. But to entice more retail investors into the market, the New York Stock Exchange set up a platform in the 1970s that made it easier to trade in smaller units, O’Hara said.
For retail investors, these smaller units remain the preferred trade size, especially for pricey stocks. It’s unlikely, for instance, that a small investor would buy 100 shares of Google at one go. The firm’s stock has been trading at more than $800 a share.
But as automated trading took hold and trading venues proliferated, more sophisticated traders began using odd lots, possibly to hide their trading activity, O’Hara said. In an automated market, it has also become easy and cheap for high-speed traders to slice and dice their large trades into smaller pieces and send them to various trading venues.
Now, even less-pricey stocks are being traded in smaller units. In its analysis Wednesday, the SEC said that the odd-lot share of cheaper stocks’ trades jumped from 5 percent in October 2012 to more than 15 percent at the end of June.
All of this matters because trades move prices. The fact that more-savvy traders are using odd lots in larger numbers makes that trade activity far more relevant, market experts said.
Many Wall Street investment banks, firms that specialize in high-speed trading and other sophisticated traders do not rely on the public data feeds. They pay high prices to get feeds directly from the individual exchanges, and the odd lots are included in those feeds.
Everyone else is left with a less-complete picture of trading activity. The SEC said that a “sizeable fraction” of market participants do not subscribe to the pricey direct feeds.
“People who are active investors care, because seeing all the transactions helps them understand what the right price of the security should be,” said Terry Hendershott, an associate professor at the business school of the University of California at Berkeley. “They don’t want to know less than anyone else in the market.”
The exchanges that collectively administer the public feeds have proposed adding the odd-lot transactions to the data they distribute to everyone, saying that doing so would add transparency to the marketplace.
The plan, which requires regulatory approval, was supposed to take effect Oct. 21. But this week, the group announced that the change has been delayed to Dec. 9.