Institutional investors have long wanted greater access to high-quality liquidity after 4:00 pm ET, when the U.S. Equity markets close and establish benchmark prices. While major exchanges have made strides toward increasing the effectiveness and flexibility of end-of-day trading over the years with enhancements to the closing auctions and other innovative features to source liquidity, finding readily available trading opportunities after 4:00 pm has remained challenging for investors.
Next month, however, Nasdaq is launching a significant market innovation to alleviate the frustration that traders typically experience during the after-hours trading session.
On March 7, Nasdaq will introduce its Extended Trading Close (ETC) – a groundbreaking new feature that will enable investors to trade at the Nasdaq Official Closing Price (NOCP) until 4:05 pm ET, which is five minutes after its closing auction ends. For these five minutes, Nasdaq will continuously match orders at the official closing price with the same efficiency, neutrality, and transparency it provides during regular trading.
We spoke with Chuck Mack, Nasdaq’s Head of U.S. Equities, and Andrew Oppenheimer, Head of Business Development and Strategy, to get more details on the new ETC feature.
Why has the after-hours market been a source of frustration for institutional investors?
Chuck Mack: Trading is a very different animal after 4:00 pm ET. The available liquidity is thinner, spreads are wider, and volatility is higher. Once the closing price is established for a listed stock or ETF at the 4:00 pm close, market participants frequently want additional liquidity – but many simply can’t find what they need in the after-hours market to effectively execute their strategies.
Beginning on March 7, investors can use the Nasdaq ETC as a completely new way to leverage the price discovery from our Closing Cross and source liquidity after the market close – at the key benchmark price in a trading session conducted with full transparency. Our new ETC will allow traders with remaining positions, or those who view the NOCP as an attractive price, to continuously pair off with other Nasdaq participants for five minutes after 4:00 pm and execute orders at that already-agreed-upon NOCP. Nasdaq is the only exchange that offers this unique opportunity. Institutional investors just need to contact their broker or OEMS provider to make sure they have access to the ETC.
Andrew Oppenheimer: Investors and traders using our new ETC can now get additional liquidity without the frustration that often comes in the after-hours session, where spreads are wider and liquidity can be scarce.
Nasdaq, like most other exchanges, has offered after-hours trading for years. What is new about your upcoming Extended Trading Close?
Mack: As the closing auction has grown, the market has produced several features to try to capitalize on that growth. These features work alongside or piggyback off the closing auction. With the ETC we’re not trying to take activity away from the closing auction. Instead, we are introducing a solution that complements it, while also solving for the challenge of after-hours liquidity.
That’s why the new Nasdaq ETC is unique. It’s the opposite of other alternative mechanisms. The ETC trades are executed after market close in an actual trading session, using the single NOCP price. It’s neutral. It’s transparent, with indications of liquidity, imbalances, and other information going to every trader so they can act in a more deterministic way. We believe the liquidity will be strong and of high quality. And, of course, because the price doesn’t move, volatility and market impact aren’t a concern.
Oppenheimer: Diverting liquidity from the closing auction is a significant downside to the existing Closing Cross facilities promoted by other exchanges or third-party services. The ETC is a complement to the Nasdaq Closing Cross, and certainly not a substitute for it. That’s the critical point.
The ETC has been designed in a unique way to address issues that other solutions have encountered. ETC will disseminate order imbalance information in real time, allowing participants to post and interact with existing liquidity that is published. Being able to see liquidity will encourage firms to interact during the ETC time window.
In addition, Nasdaq has set up the ETC to ensure that after-hours continuous market trading is in line with the closing print, and in situations where the after-hours continuous market price has moved away from the Closing Cross auction price to any extent on Nasdaq, or by a significant amount elsewhere, matching in the ETC will be suspended.
Having price protections built into the ETC provides participants with the confidence that they are transacting at a stable price. The ETC has been purpose built to ensure that all participants have a level playing field in which to trade.
Why is it so important for institutional investors to participate in the Closing Cross before trading in the ETC?
Mack: The 4:00 pm Nasdaq Closing Cross is a tremendous liquidity event and a vital mechanism for price discovery. On average, it currently trades over $17 billion a day and almost 210 million shares, reaching a total of $1.1 trillion for Q4 2021*. By bringing together such a massive flow of supply and demand – involving many diverse trading strategies, end-traders, and investors – our Closing Cross provides unparalleled transparency into the market. That’s why the financial community has long trusted it to establish the benchmark of the market close. In fact, our end-of-day auction sets new records in volume and dollars traded every year, which highlights how much the industry trusts the Closing Cross.
And, that’s why we were careful to design the ETC not to divert orders away from the Closing Cross, which we see as integral to the entire market’s function. Rather, as Andrew said, the ETC will be a complement to the closing auction, and an additional opportunity for institutional investors to find the liquidity they need while, finally, making full use of the benchmark closing prices.
We designed the ETC to respond directly to the institutional community’s needs. In fact, the idea for the ETC really came out of discussions with institutional investors. It’s 100% customer-driven.
Having the ETC as a second chance to fill those remaining orders will surely influence how they use the Closing Cross, though…
Mack: Yes, but we expect it to be in positive ways. In general, the more you put into the Closing Cross, the better, because that’s where the price discovery occurs and that’s a critical function of the market. But traders on behalf of institutional clients don’t want to be oversized. If an institutional investor moves into a big position, they may be cautious with respect to the size they put into the auction relative to what they see historically. Traders and investors are constantly thinking about price or market impact. They want to be a part of the price discovery; they don’t want to be the price discovery.
Oppenheimer: This means institutional traders typically use percentage of volume as a guideline for what they put into the Closing Cross. They model out what they think the close volume is going to be – but it’s difficult to be 100% precise. Often, many traders end up with residuals after the 4:00 pm auction. The ETC is an excellent opportunity to find liquidity after close and execute these residual shares – with arguably zero volatility and zero market impact. Because, again, all participants are using the single, agreed-upon benchmark prices.
What has been the user reaction to the coming launch?
Oppenheimer: It’s been extremely positive. It’s the most excitement we’ve had around a product launch since we created the Midpoint Extended Life Order (M-ELO). Several customers have told us they’ve prioritized development to access the ETC in their tech priority list, as their institutional clients are calling them and saying, “make sure I’ll have access to this.”
Mack: Even though everyone has a long technology queue, we’ve been hearing from many traders and portfolio managers who have changed their plans to make sure they can use the ETC on day one, on March 7. Andrew mentioned earlier that the idea for the ETC came directly from conversations with institutional investors. We have many client conversations about all new products in every stage of their development cycles, and the ETC is no exception. So we knew the ETC would be a highly popular feature as we were building it. But since its SEC approval in January, the level of excitement – and the feedback around how quickly participants want to adopt it – have nonetheless surprised us in a very positive way.
Can you talk about any other innovations from Nasdaq that we’ll be seeing soon?
Oppenheimer: You can be certain that we’ll continue to improve the open and close. We’ll never be done there; it's a continuous evolution. So expect to see ongoing innovations in those areas.
Second, we’ve had tremendous growth in M-ELO over the last several months – 165% since June 2021 – and we’ll soon add more features for it, including order options that allow algos to better integrate M-ELO into their execution workflow. In the next year you’ll also see other new trading features for banks and brokers that provide algos for institutional order flow.
In evolving technologies, our AI and Machine Learning Lab at Nasdaq will continue to drive many of our product enhancements and implementations. And so will our relationships with other leading tech innovators; you may have seen that we recently expanded our partnership with Amazon Web Services to co-develop technology and bring greater cloud functionality to the financial markets. In the long run, this partnership will bring more tools and opportunities to our members and the institutional investor community.
Mack: I can’t give you any more specifics than Andrew did, but our industry continuously evolves as needs change, workflows improve, and new technologies emerge. Institutional investors will continue to take greater control of their workflow. We’ll see increasing adoption of AI, machine learning, and cloud solutions, just to name three significant areas, and Nasdaq will continue being an innovation leader in those technologies.
*Source: Nasdaq daily averages, Q4 2021