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November 2, 2011

Paper Points to Rise of Odd Lots

By James Armstrong

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  • Paper Points to Rise of Odd Lots

Odd lots-which aren't reported to the consolidated tape-have grown as a percentage of shares traded and could now make up as much as 20 percent of market volume.

Maureen O'Hara

That's according to a recent paper by Cornell University's Professor Maureen O'Hara, together with Chen Yao and Mao Ye of the University of Illinois.

The paper, which looked at odd lots and their impact on transparency, estimated that executed orders of fewer than 100 shares have grown from about 2.25 percent of volume at the beginning 2008 to about 4 percent of volume at the end of 2009. In the past two years, they have grown even more.

Experts say it is very difficult to know how much of current trading comes from odd lots, but some estimates run as high as 20 percent.

"The interesting thing about odd lots is they used to be sort of a backwater," O'Hara said in an interview with Traders Magazine. "Odd lots now are actually being used via a very different clientele of people."

Titled "What's Not There: The Odd-Lot Bias in TAQ Data," the paper examines how a lack of transparency in odd-lot trades has led to a massive amount of missing data that could be skewing perceptions of the market.

"Part of what's happening is algos have now changed how you trade, and so it's not that uncommon to have an order chopped up into lots of little pieces," O'Hara said. "Those pieces can all be odd lots, and those things can all fall outside of the consolidated tape."

Since odd lots are not reported to the tape, there is an incentive for well informed traders to use odd lots rather than more visible trade sizes, the paper found.

Though the Securities and Exchange Commission recently reaffirmed its policy that odd-lot trades should not be reported to the tape, the authors questioned that move, noting fragmentation, high-frequency trading and widespread use of algos have changed the markets in some fundamental ways.

Last year, NYSE Euronext came out in favor of requiring odd-lot transactions to be reported in consolidated trade data.

The exchange operator noted that a significant volume of trading is attributable to odd lots, and reporting those trades would improve the accuracy and reliability of market data provided to the public.

That position represented a turnaround for the exchange, which had previously objected that there were technical hurdles to reporting odd lots to the tape. Now, however, NYSE says any system capacity constraints that formerly precluded inclusion no longer exist.

It was once thought that odd lots were generated primarily by retail investors, but since any trade under 100 shares is considered an odd lot, medium-size trades of expensive stocks often fall in the odd-lots category.