Understanding Order Handling in Indian Stock Markets – A Guide for New Traders

When you start trading in the Indian stock markets, it’s crucial to grasp the nuances of how your orders are processed and executed. This understanding can greatly enhance your trading strategy and execution efficiency. Let’s dive into the world of market microstructure and order flow in Indian stock markets, tailored for someone new to these concepts.

The Basics of Market Microstructure

Market microstructure refers to the mechanisms and processes through which stocks are traded in financial markets. This includes how orders are processed, the role of various market participants, and the dynamics of order flow.

Key Participants in the Market

1. Traders and Investors: These are individuals or entities that buy and sell securities. They can range from retail investors, like you, to large institutional investors.
2. Brokers: Brokers act as intermediaries between traders and the exchange, facilitating the buying and selling of securities. They execute orders on behalf of clients and provide necessary trading tools and platforms.
3. Exchanges: The venues where trades are executed, like the Bombay Stock Exchange (BSE) or the National Stock Exchange (NSE) in India. Exchanges provide the infrastructure necessary for orderly trading and dissemination of price information.
4. Market Makers and Liquidity Providers: These participants ensure there is enough liquidity in the market by buying and selling securities to balance supply and demand.

How Orders are Processed

Order processing in the stock market involves several steps that occur in milliseconds:

1. Order Entry: As a trader, when you submit an order through your broker’s trading platform (be it a mobile app, website, or via API), it first checks if you have sufficient margin to cover the trade.
2. Order Routing: Once validated, your order is sent to the exchange. The time taken for this process can vary depending on the technology infrastructure of the broker and the type of order.
3. Order Matching: At the exchange, your order is matched with opposite orders (buy orders matched with sell orders). This is typically done through an automated system known as an order matching system. The priority of order matching is usually based on price and time priority – the best price gets priority, and among similar prices, the earliest order gets precedence.
4. Trade Execution: Once a match is found, the trade is executed. This execution is confirmed back to the broker and then to you as the trader.
5. Post-Trade Processing: After the trade is executed, post-trade processes including clearing and settlement occur. This involves the actual transfer of securities and cash between buyer and seller, which is facilitated by clearinghouses.

Example of Enhanced Order Execution

Taking a specific example from the Dhan’s technology and execution speeds, Dhan has developed its own in-house trading system known as DEXTS (Dhan Exchange Trading System). This system processes a significant percentage of trades in less than 50 milliseconds. Such speeds are achieved through a combination of robust technology infrastructure, direct connectivity to exchanges, and optimized order management systems (OMS).

This rapid processing is crucial during high-volatility periods where execution speed can significantly impact trading outcomes. Dhan, like many modern platforms, ensures that order validation and risk checks are performed efficiently, balancing speed with the accuracy and security of trades.

Execution Speed of Various Brokers

90% of orders placed on 16th April 2024(Banknifty & Finnifty weekly expiry) took less than 'n' milliseconds to get an acknowledgement.
Only APIs through which more than 1000 orders were placed are taken in consideration.
But placing an order is not the only thing that matters.… pic.twitter.com/wKcsjjYBjM

— JayneshKasliwal (@JayneshKasliwal) April 22, 2024

What is Order Response Time?

Order response time refers to the speed at which a trading order is processed and acknowledged by the market. It includes the time taken for the order to travel from the trader’s platform to the broker, then to the exchange, and for the confirmation of the order’s acceptance or rejection to be sent back to the trader.

Importance of Fast Order Response Times

1. Improved Price Execution: Faster order response times can lead to better price execution. In a market where prices change in fractions of a second, the ability to execute orders quickly means traders can capitalize on the prices they expect.
2. Enhanced Trading Strategies: For day traders and those using high-frequency trading strategies, speed is a competitive advantage. Quick response times enable these traders to exploit small price gaps and market inefficiencies.
3. Increased Market Access: In volatile trading conditions, rapid response times ensure that orders are more likely to be executed before market conditions change, thus providing greater access to limited trading opportunities.
4. Reduced Market Impact: For large volume traders, such as institutional investors, faster execution can reduce the market impact of their trades. Slow execution can lead to significant price movements that might adversely affect the trade outcome.

Slippages: The Side Effect of Latency

Slippage occurs when there is a difference between the expected price of a trade and the price at which the trade is actually executed. This discrepancy can result from market volatility but is often exacerbated by slower order response times.

• During High Volatility: Quick changes in price mean that the longer it takes for an order to be executed, the more likely it is that the market will move away from the price quoted when the order was placed.
• Impact on Traders: For traders engaging in rapid trading strategies, such as scalping, slippages can significantly cut into potential profits, making the efficiency of order response a critical element of their trading infrastructure.

Understanding the microstructure of the market where you trade can give you a significant advantage. It helps you appreciate the complexity of what happens behind the scenes when you click ‘buy’ or ‘sell’ and why sometimes orders may take longer to execute than expected. As you become more familiar with these concepts, you can better strategize your trades according to the dynamics of order flow and market structure.

For traders new to order flow concepts, remember that every millisecond counts in trading, and having a broker with a robust technological backbone can enhance your trading performance significantly.