In the stock trading world, a lot refers to the standardized number of units of a stock or security being traded. An odd lot is when a trader buys or sells shares in increments less than a hundred.
Often, the actual value of a stock or security means that buying or selling just a single unit is not viable. That’s why traders and investors alike use a lot: a set amount of a given stock that you trade in each transaction.
The value of a lot is set by a stock exchange, or a market regulator like the U.S. Securities and Exchange Commission and is usually the minimum number of units of a particular stock that you can trade. This regulation means that traders always know how much of a stock they are trading when they open a position.
Today, we are going to explain what an odd lot is, how traders use odd lots and why the popularity of this trading activity has grown in recent years.
Odd lot definition
Trading shares of public companies is largely concentrated on the Nasdaq and the New York Stock Exchange (NYSE). Such trading falls into two major categories, round lots and odd lots.
A round lot is the standard trading unit (100 shares or multiples thereof) that traders use on most stock exchanges. Lots of these types make the process of trading stocks easier because the unit establishes a basis for amounts that all traders linked with the purchase or sale understand.
Hedge funds and other institutional investors also prefer blocks of shares because the price often quoted on a stock exchange is for a round lot.
An odd lot, on the other hand, refers to a quantity of stock that differs from a standard trading unit. Generally, an odd lot refers to any stock order that involves the purchase or sale of less than 100 shares, such as 43 shares.
For ease of trade, stock exchanges trade stocks in a uniform unit such as 100 or 500 shares. But since not many small traders can afford to trade huge chunks, this leads them to trade odd lot of stocks.
According to the Chicago Board Options Exchange, odd lots represented 54.8% of all trades in the U.S. financial markets as of October 2021, up from 43% at the start of 2020.
Odd lot executed share volume spiked to almost one billion shares per day during the initial pandemic-related volatility in March 2020. Odd lot executed share volume hit its peak during the meme stock trading frenzy observed in early 2021.
While odd lot average daily executed share volume had dropped nearly 22% from the highs hit in February and March, their percentage of trades continues to rise, and overall share volume is expected to remain higher than the previous year.
Who makes odds lot trades?
Stock trades involving odd lots are most often made by individual traders, rather than big investors such as hedge funds or mutual funds.
Although traders used to be hit with an extra fee for making an odd lot trade, modern stock brokers usually handle them without penalizing traders. Odd lots also led to the rise of an investment hypothesis known as odd lot theory, which was popular in the 1970s.
Growth of odd lot trades
In the past, when the stock market was less liquid, trading was cheapest if done in round lots. No one wanted to buy odd lots as a result of the challenge of finding trading partners for anything else. Because of the extra work, brokers charged huge commissions for matching buyers with sellers.
As market makers became more prominent, specific stock specialists emerged, more money was injected into the market through smaller dollar amounts and smaller brokerages, liquidity went up, bid and ask quotes became easier to come by, thus making odd lots not quite as odd as they once were.
Now that liquidity is not a big problem because electronic trading is standard and market makers are required to provide a liquid running book, finding for trading partners is quite easy.
Trading odd lots has become a normal market activity, while marginally different ask or bid prices may result from trading round lots, the difference is usually only noticed by institutional traders.
There are also some stocks in which were buying round lots has become significantly expensive and odd lot trading is second nature.
Bottom Line
Trading odd lots has become a common practice in the stock market, thanks to the introduction of high-speed trading applications and adoption of commission free trades.
In the past decade, the stock market has witnessed a steady, prolonged and, at times, pronounced jump in odd-lot trading activity. While the rate of odd-lot trading activity is increasing, it is still a small component of overall trading volume.
Analysts often attribute the increase in odd lots to the spike in retail trading. For instance, in 2019 the marketed witnessed an increase in odd-lot trades that coincided with the decision of stock brokers to move to zero commissions.
Commissions largely don’t exist anymore at most online brokerage firms, such as TD Ameritrade and Charles Schwab (NYSE: SCHW).
A quick look at the stocks with some of the odd-lot trading activity reveals that many are household names. These include Apple (NASDAQ: AAPL), Amazon (NYSE: AMZN), Microsoft (NASDAQ: MSFT), and Tesla (NASDAQ: TSLA).
Amazon in particular, trades in odd lots 90% of the time, with almost 50% of its daily volume tied to odd lots. Before splitting its stock, Tesla had a similar pattern where 90% of trades and nearly half of its volume in July and August 2020 stemmed from odd lots.
These names are popular among institutional investors and are also heavily weighted in retail brokerage accounts. Therefore, the sustained increase in odd lot trading implies retail traders are not the only contributing factor.
Odd lots were once considered an afterthought, but are an integral and valuable part of today’s stock markets. This growing segment is a meaningful source of liquidity across all stocks and trading periods.
The post Odd Lot Trade: What Does It Mean For Stocks? appeared first on Warrior Trading.
Original source: https://www.warriortrading.com/odd-lot-stocks/
