Liquidity, Product Type and Technology: 3 key considerations for determining the right online marketplace
The benefits of an online marketplace are clear, significantly widening markets while providing sellers with higher margins. But, selecting the right auction or trading platform is key to maximising success, whether this platform is built in-house, or purchased pre-built.
Many people believe that the correct platform is determined by the industry type, but the reality is that your industry isn’t one of the most important factors to consider when evaluating prebuilt platforms, or considering how to build your own.
What is crucial is matching your marketplace design to your market’s liquidity and product type, and ensuring that your platform’s technological capabilities support this design.
Liquidity and product type
To further explore the matching of marketplace design to situation, we first need to understand its context within online trading. “Liquidity” essentially refers to a buyer or seller’s level of expectation of being able to conduct a transaction. The higher the liquidity, the deeper the market, and the easier it is to buy and sell.
“Product type” refers to the degree to which a product type is “standard” e.g. standard products, such as futures, have fixed specifications and can be traded multilaterally in variable quantities whereas non-standard products (e.g. livestock) have multiple specifications, are sold in fixed lots or batches, and are traded bilaterally.
Getting the match right
Here we briefly outline some examples that illustrate the importance of matching marketplace design to liquidity and product type:
For low liquidity, non-standard products: Marketing & Negotiation Channel
A sales channel that enables a seller (or buyer) to signal to the market that they have (or want) product. Arranging or structuring a transaction is a complex process that may require a structured negotiation process to determine the final terms of trade.
In the cattle industry, AgriClear’s platform allows sellers to connect directly with buyers in North America, with the ability to set the price and selling conditions, post photos, videos, and other information about their cattle, negotiate pricing and select the best offer. Buyers can also search for cattle that meets their exact requirements and can also post listings with what they are looking for and from what specific sellers. They can also follow preferred suppliers and, before execution, negotiate a satisfactory price.
These marketplaces can benefit with buyer-to-seller matching engines that notify traders from a central directory. Direct price information is sensitive and may need to be restricted or fed back to the market as a benchmark.
For moderate liquidity, standard products: Discrete Double Auction
This method allows the adoption of common product specifications and variable quantity trading. Liquidity is increased by focusing trading on a specific time window, creating a liquidity concentration event.
In the crude oil market, Platts uses a “time window” as its sets its daily Brent benchmark, used by traders and companies to price most of the world’s physical crude oil market. Participants declare their intent to post bids or offers before a discrete cut-off point 30-45 minutes before the close of the market. At market close, Platts publishes its benchmark based on the bids and offers made, as well as its own research.
During those final minutes, the participants can change their bids and offers (within Platts’ guidelines), but new participants are not allowed to post bids or offers. However, new participants can accept a bid or offer that has already been made. This discrete double-auction mechanism works as a liquidity concentration event, increasing the market’s depth far beyond those companies that posted bids or offers during the day.
For moderate liquidity, non-standard products: Classic Auction Mechanisms
Here, the lack of product standardisation makes double-auction marketplace designs impractical, but enough participation exists to use classical mechanisms for optimal price discovery.
One of these classical mechanisms is a single-sided “batch” market, in which sellers offer a quantity of a specific product or product group at a pre-announced starting price. Ascending-price clock auctions are held until the quantity bidders are willing to purchase, equals the amount sellers are prepared to sell—essentially achieving price optimisation through the basic laws of supply and demand.
Global Dairy Trade (GDT), which matches more than 600 approved buyers with dairy commodity sellers in more than 80 countries during its “GDT Events” batch auctions, is an example of an effective use of this marketplace model.
For high liquidity, standard products: Continuous Double Auction
Here, trade takes throughout the day, with constantly adjusted pricing supporting multiple order types (e.g. at-market, stop-loss, take-profit, iceberg). A very deep market is required to make this design work. Online platforms for stock exchanges are a prime example.
In futures trading, ICE uses this design to facilitate trade in crude-oil futures tied to the Brent benchmark discussed earlier.
There’s no doubt that online marketplaces can be a great company asset for all liquidity and product types, but matching the right platform to the relevant market situation is vital.
Rather than choosing a pre-built or in-house engineered platform based on industry type, considering the marketplace conditions and that the correct technology is in place are necessary. After all, not all technology is equal and whereas the right solution can lower trading costs and increase liquidity, a platform without the necessary technological capabilities will deliver less-than-optimal results.
The right platform, will not only increase trade volume and seller margins, but will also be scalable with the ability to support future changes in market volatility and trading volume.
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