Cash Market Preopening Session

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Cash Market Pre-opening Session Index Basket
Order Trading Mechanism

February 2002
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Agenda

• I. Pre-opening Session
• Purposes Benefits
• Main Features
• Trading Operations
• Contingency Arrangement

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Agenda Contd

• II. Index Basket Order Trading Mechanism
• Purposes Benefits
• Main Features
• Criteria for Index Basket Order
• III. Market Rehearsal and Implementation
• IV. Q A Session

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PRE-OPENING SESSION
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• Purposes Benefits
• Allow Exchange Participants to start order input
  during the Pre-opening Session and improve their
  operational efficiency
• Reduce the loading of the system arising from the
  large number of order inputs and trade execution
  messages at the commencement of morning session
• Prevent significant price fluctuations and
  possible manipulation at the commencement of
  Continuous Trading Session

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• Purposes Benefits Contd
• Establish an optimized opening price
• Maximize the quantity of order matching
• Allow Exchange Participants to report pre-open
  trades

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• Main Features
• Trading Mechanism
• Order matching by Single Price Auction only (no
  market making and continuous automatching)
• Reporting of pre-open trades
• 2 new order types
• At-auction Order
• At-auction Limit Order

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Main Features ...Contd

• Pre-opening Session will apply to all markets,
  all securities and all trading facilities from
  930 a.m. to 1000 a.m.
• It comprises four different periods as follows
• Order Input Period 930 a.m. to 945 a.m.
• Pre-order Matching Period 945 a.m. to 950 a.m.
• Order Matching Period 950 a.m. to 958 a.m.
• Blocking Period 958 a.m. to 1000 a.m.

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Main Features ...Contd

• Order Input Period (930 a.m. to 945 a.m.)
• Input of at-auction orders (without a specified
  price) and at-auction limit orders (with a
  specified price) only
• Orders may be modified or cancelled
• Both Indicative Equilibrium Price (IEP) and
  Indicative Equilibrium Volume (IEV) will be
  calculated and displayed continually
• IEP is the price at which the maximum number of
  shares can be traded if matching occurs at that
  time

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Order Input Period (930 a.m. to 945 a.m.)
...Contd

• IEV is the number of shares that would be traded
  at the IEP
• The nominal price equals to IEP (if available) or
  the previous closing price (if IEP is not
  available)
• Orders subject to the same validation as
  Continuous Trading Session, except 8-spread
  quotation rule is waived
• Short selling orders not accepted
• Input of pre-open trades allowed

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Main Features ...Contd

• Pre-order Matching Period (945 a.m. to 950
  a.m.)
• Same as Order Input Period except
• input of at-auction order only
• all orders cannot be modified or cancelled
• Avoid significant change in the IEP by removing
  orders just before the commencement of the Order
  Matching Period
• Provide a mechanism to adjust the IEP to a fair
  market price while attracting more order (i.e.
  at-auction orders) in this period

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Main Features ...Contd

• Order Matching Period (950 a.m. to 958 a.m.)
• no input, modification and cancellation of orders
• orders will be matched in order type (at-auction
  order first), price and time priority at the
  final IEP in this period
• details of concluded trades will be disseminated
  to relevant Exchange Participants and the
  aggregate total will be disseminated as one
  single trade with trade type U to the market
  immediately

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Order Matching Period (950 a.m. to 958 a.m.)
...Contd

• cancellation of at-auction orders and conversion
  of at-auction limit orders to limit orders which
  will be carried forward to Continuous Trading
  Session
• no input of pre-open trades

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Main Features ...Contd

• Blocking Period (958 a.m. to 1000 a.m.)
• a break between the Pre-opening Session and the
  Continuous Trading Session
• no input / modification / cancellation of orders
  and pre-open trades

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Trading Operations (1) Input operations of
new order types

• At-auction Orders
• Input of at-auction orders is permitted during
  Order Input Period and Pre-order Matching Period
  but Modification / Cancellation of at-auction
  orders is only permitted during Order Input
  Period
• At-auction orders enjoy a higher auction matching
  priority than at-auction limit orders
• Unfilled at-auction orders will be cancelled
  automatically

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At-auction Orders ...Contd

• Press PRE/SP BUY ORD or SELL ORD (same as
  Enhanced Limit Order and Special Limit Order)
• Enter the order details (e.g. stock code,
  quantity,etc)
• Order type At-auction Order A
• No order price is associated with at-auction
  orders, i.e. at-auction orders will be matched at
  the final IEP

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(1) Input operations of new order
types ...Contd

• At-auction Limit Orders
• At-auction limit order is a buy order or sell
  order with a specified price
• Input, modification and cancellation of
  at-auction limit orders are only permitted during
  Order Input Period
• Unfilled at-auction limit orders, with input
  price not deviating 9 times or more from the
  prevailing nominal price, will be converted to
  limit orders at the input price and carried
  forward to the Continuous Trading Session of the
  same day

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At-auction Limit Orders ...Contd

• Press PRE/SP BUY ORD or SELL ORD (same as
  Enhanced Limit Order and Special Limit Order)
• Enter the order details (e.g. stock code, price,
  quantity,etc)
• Order type At-auction Limit Order I

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(2) Display of information

• At-auction order/at-auction limit order
• at-auction orders and at-auction limit orders
  with prices at or better than IEP will be grouped
  under the IEP queue
• at-auction orders will not be displayed if there
  is no IEP
• IEP / IEV
• calculated and displayed throughout the Order
  Input Period and the Pre-order Matching Period

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(2) Display of information ...Contd
Order type and order price will not be displayed
Market state
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(3) Examples of Pre-opening Session

• Example 1
• Order Input
• The table below shows all orders in the order
  book at the commencement of Order Matching
  Period, sorted in the sequence of matching
  priority

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Example 1 Contd

• Determination of IEP
• In general, the IEP shall be one of the bid
  prices or ask prices which falls at or within the
  range of the Highest Bid Price and the Lowest Ask
  Price and results in maximum matched shares
• Therefore, the IEP is determined to be 32.00

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Example 1 Contd

• Order Matching
• The following trades are generated

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Example 1 Contd

• Orders Carried Forward to Continuous Trading
  Session
• The following unfilled at-auction limit orders
  would be carried forward to the Continuous
  Trading Session

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Example 2

• During Order Input Period (930 - 945 am)
• Assuming that the following orders are entered
  during the Order Input Period

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Example 2 Contd

• The IEP is calculated to be 64 and the
  cumulative available quantities at the bid and
  ask sides at 64 are 6,000 and 5,000 shares
  respectively.

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Example 2 Contd

• During Pre-order Matching Period (945 - 950 am)
• A broker, who wants to match the surplus at IEP
  or is of the view that the IEP is on the high
  side can enter an ask at-auction order of 1,000
  shares or more.
• Assuming Broker H enters an ask at-auction order
  of 5,000 shares during the Pre-order Matching
  Period and the order book is as follow

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Example 2 Contd

• The IEP is now changed from 64 to 63.75 but the
  number of tradable shares is increased from 5,000
  to 7,000.

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Example 2 Contd

• If another broker I is of the view that the IEP
  is low and enters a bid at-auction order of
  10,000 shares. The order book is as follow

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Example 2 Contd

• The IEP is changed from 63.75 to 64.25 and the
  number of tradable shares is further increased to
  11,000.

Since only at-auction order can be entered and no
modification or cancellation of orders is allowed
during the Pre-order Matching Period, it can
avoid significant change in the IEP.
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CONTINGENCY ARRANGEMENT

• Typhoon and Rainstorm
• If Typhoon Signal No. 8 or above hoisted or Black
  Rainstorm Warning issued and not
  lowered/discontinued at or before 730 a.m., no
  Pre-opening Session will be commenced for that
  day
• The time for commencement of Continuous Trading
  Session (if any) will follow the current practice

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• Typhoon and Rainstorm ......Contd
• If Typhoon Signal No. 8 or above hoisted during
  the Pre-opening Session, the Pre-opening Session
  will continue until it ends. There will be no
  Morning Session and Extended Morning Session
• The commencement of the Afternoon Session will
  follow the current practice
• If Black Rainstorm Warning issued during the
  Pre-opening Session, trading will continue

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CONTINGENCY ARRANGEMENT ...Contd

• Emergency - Market Close
• If market closes (eg. due to system failure)
  during the Order Input Period or the Pre-order
  Matching Period, all at-auction and at-auction
  limit orders will be cancelled. Trading will
  resume with the Continuous Trading Session
  directly on the same day.
• If market closes during the Order Matching Period
  and trading can be resumed on the same day, the
  Order Matching Period will continue at the time
  of restart.

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Index Basket Order Trading Mechanism
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• Purposes Benefits
• Provide an additional order data packet design to
  contain a basket of orders in one single order
  message
• Facilitate execution of multiple orders for index
  basket trading, including index arbitrage

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• Main Features
• Index Basket Order can only be input to the
  trading system through Broker Supplied System
  (BSS) during the Continuous Trading Session
• Only apply to the constituent stocks of Hang Seng
  Index (HSI) at initial stage (may consider to
  cover other tradable indices later)
• Each Index Basket Order will be submitted to the
  system at a rate of one basket order per second
  (same as current throttle rate for single order)

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• Main Features ...Contd
• Upon submission to AMS/3 host, the basket order
  will be split into normal special limit order
  which have the following features
• matching priority in time sequence only
• orders will not be rejected due to price changes
  during a fast market
• unfilled orders will be cancelled immediately
  and
• brokers do not need to manage a large number of
  orders requiring price modification or
  cancellation in the case of sudden changes in
  market conditions.

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• Criteria for Index Basket Order
• Each basket order shall meet the following
  criteria
• Each basket order must only comprise special
  limit order
• Each basket order must contain at least 18
  constituent stocks of the HSI
• Each basket order has to track at least 90 of
  the market capitalisation of the HSI
• The weighting of each stock in a basket order
  must not deviate from its index weighting by more
  than 20
• Each basket order must be one-sided (i.e either
  buy orders or sell orders)
• Non-compliance with any of the aforesaid criteria
  may result in suspension of input of Index Basket
  Order

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• Criteria for Index Basket Order ...Contd
• An Illustration

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• Market Rehearsal and Implementation
• 2 market rehearsals will be conducted in March
  2002
• Subject to the results, the Pre-opening Session
  and Index Basket Order Trading Mechanism will be
  implemented as soon as the market is ready

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• Q A Session

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ALGORITHM OF IEP CALCULATION
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IEP Calculation

• IEP presents whenever
• Highest Bid Price of At-auction Limit Orders gt
  Lowest Ask Price of At-auction Limit Orders

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IEP Calculation ...Contd

• Rule 1 - IEP must be a price at or between
  Highest Limit Bid and Lowest Limit Ask
• The IEP must be one of the bid prices or ask
  prices which falls at or within the range of the
  Highest Bid Price and the Lowest Ask Price, i.e.
  205, 203, 202 and 201.
• Go to Rule 2 if more than 1 price fulfil Rule
  1

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IEP Calculation ...Contd

• Rule 2 - Pick the Price with Maximized Matched
  Shares
• The IEP will be either 203 or 205 in which the
  quantity of matched shares is maximized
• Price Matched Shares
• 201 - 2,000 shares
• 202 - 2,000 shares
• 203 - 2,500 shares
• 205 - 2,500 shares
• Go to Rule 3 if more than 1 price fulfil Rule 2

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IEP Calculation ...Contd

• Rule 3 - Pick the Price with Lowest Normal Order
  Imbalance
• The IEP will be either 203 or 205 in which the
  normal order imbalance is the lowest
• If more than 1 price fulfil Rule 3
• - Go to Rule 4 when there is previous closing
  price or
• - Go to Rule 6 when there is no previous
  closing price.

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IEP Calculation ...Contd

• Rule 4 - Pick the Price which is closest to the
  previous closing price
• Suppose the Previous Closing Price is 204.
• 203 and 205 are of equadistant from the
  previous closing price
• Go to Rule 5 if more than 1 price fulfil Rule
  4.

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IEP Calculation ...Contd

• Rule 5 - Pick the Higher Price
• Select the higher price. The IEP will be 205.
• IEP can be calculated up to this rule with
  previous closing price.

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IEP Calculation ...Contd

• Rule 6 - Pick the Highest Price (only applicable
  if no previous closing price)
• Select the highest price. The IEP will be 205.
• Consider this rule only when there is no
  previous closing price and more than 1 price
  fulfil Rule 3.