Stocks: Trading the Morning Crossover (Advanced)

Let's say that when the market closed, Microsoft released earning and it was extremely positive! It beat all analysts expectations! Let's pretend you're sitting at home and you saw the news and thought " I knew it, I should have bought Microsoft stock, I'm going to buy some right now." So you contact your broker and put in a buy order for Microsoft; but the markets are closed and you put in a market buy order because your so sure that the stock will continue to increase that you are willing to pay any price.

Now we investigate the inside of the market. According to Investopedia "both the NYSE specialist and Nasdaq market maker try to increase the liquidity on the exchange and provide more fluid and efficient trading." Recently, the NYSE specialist were converted to market makers.

When you in an order for Microsoft stock, the market maker on the other end sees your order. Lets say hypothetically your trying to buy 1,000 shares of Microsoft, Microsoft is currently trading at $23.50. Now someone at the other end is trying to sell Microsoft at $24.00. If you place a market buy, your order will get filled at $24.00. But what if no one was selling shares of Microsoft until $100.00? Hence the role of the market maker is to provide market liquidity, so he will always have a large amount of shares on hand to compensate for this fact. The market maker sees that there is a big imbalance between buyers and sellers. So he decides what price he will sell his shares at, he may choose $23.75 or $25.00, its really up to him, because there are no other sellers. According to Investopedia "These market makers maintain inventories and buy and sell stocks from their inventories to individual customers and other dealers."

This scenario this will not occur in reality but it goes to shows that the market maker has great power over the opening price of a stock.

So now we understand a little more about the people behind the scenes of the market when it is closed. The morning cross occurs when there is an imbalance between buyers and sellers. Computers at the NYSE can calculate to relative precision what the opening price of a stock will be judging by the number of pending orders. It's called "Arca Auctions" but more specifically Auction and Halted auctions. Click Arca Auction for a direct link.

If you look at it before the market opening, you will notice a column called the "Indicative match price" and "Matched volume." These are the main two columns one must pay attention to. Indicative match price is the price the computers think the stock will open at and the matched volume is the volume that has been traded before the market has opening.

Do not trade anything with less than 50,000 matched volume unless you're very experienced. You will probably notice that it's not stocks that are traded on the morning cross but rather it's dominated by ETFs (electronically traded funds).

For example, the indicative match price of UNG was $12.50. Match volume was 200,000 and the bid was $12.10 and ask was $12.30. If you punched $12.30 and the stock opened at $12.50, you would have made a really nice profit. I'm sure you ask "if its so easy, why doesn't everybody do it?" The reasoning behind it is that most people do not know about it and there are many other factors one must consider before making a trade; such as how the futures are moving, if the market gapped up or down and news.

Check out the Arca auctions and watch what happens to the price of the stock. As time reaches closer to the opening of the market, the closer the indicative match price will match the bid and ask. For example, say the market gapped up a mere 5 points on the S&P with no news and no other major movement on any other futures indicator. Chances are, the gap will fill within 20-30mins. You look at UNG and the match price was $12.50, the bid and ask at $12.45 and $12.60 respectively. What would you do?

I would place an ask order to go short at $12.60 and if I was desperate I would
go even lower to $12.55 maybe. When the market opens, UNG will open at $12.50 - you can sell here and still make a nice profit - but since there was a gap up, the market will try to fill the gap (I will talk more about Gap plays in future Lens'). UNG will generally follow the market and drop along with the market, and I would have made a really nice profit on my short!

I hope most people reading this have a better understanding of how the morning cross happens. This happens to be my first Lens! If you have any comments and suggestions with regards to anything, please let me know!

I started my quest for the stock market after reading Robert Kiyosaki's Rich dad, Poor dad. I found this Ebook a while ago , decided to buy it because I thought Nicolas Darvas had great trading psychology. These are some other great books I reccommend reading before tackling the markets.

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Thanks,

Richard