How a trade happens

Tapping “Buy” in an app feels instant. Behind it are an exchange, a broker, a clearing corporation and a depository, each with its own job. Knowing what each one does explains things that otherwise look odd, such as why there are always two prices.

The exchange

Shares of listed Indian companies trade on stock exchanges, chiefly the National Stock Exchange (NSE) and BSE. An exchange does not buy or sell anything itself. It runs the marketplace: it collects every buy and sell order, matches them, and publishes the prices. SEBI, the Securities and Exchange Board of India, regulates the exchanges and everyone who deals on them.

Your broker

You cannot send orders to an exchange yourself. A stockbroker, registered with SEBI and a member of the exchange, sends them for you. A trading app is a broker’s front door.

Where your shares live

Shares are no longer paper certificates. They are held electronically in a demat account (short for dematerialised) at one of India’s two depositories, NSDL or CDSL. You open it through a depository participant, which is usually your broker. Most people end up with three linked accounts:

1. A bank account, which holds your money.
2. A trading account with the broker, through which you place orders.
3. A demat account, which holds the shares you own, in your own name at the depository.

Two prices: the bid and the ask

Look at any share in a trading app and you will see two prices, not one:

• the bid, the highest price anyone is currently offering to pay, and
• the ask (or offer), the lowest price anyone is currently willing to sell at.

The gap between them is the spread. To buy right now, you pay the ask; to sell right now, you get the bid. Buy and sell again straight away, and you lose the spread.

All the orders waiting to be filled, stacked by price, make up the order book: sellers queued above, buyers below, each at the price they asked for.

Market orders and limit orders

• A market order says: fill me now, at whatever the book offers. It will fill, but you don’t control the price. If it is bigger than the quantity waiting at the best price, it carries on to the next price, and the next.
• A limit order says: only at this price or better. You control the price, but the order may not fill at all.

For most large companies, most of the time, the best price has more than enough shares waiting and none of this matters much. For large orders, thinly traded shares or a fast-moving market, it can matter a great deal, which is when a limit order earns its keep.

After the match: clearing and settlement

When your order is matched, the trade is agreed but not yet settled. A clearing corporation (NSE Clearing for NSE, the Indian Clearing Corporation for BSE) steps in as the buyer to every seller and the seller to every buyer, so neither side has to trust the other. India settles share trades on T+1: the shares reach the buyer’s demat account, and the money reaches the seller, one working day after the trade.

Who is on the other side?

Every trade has a buyer and a seller. Sometimes the other side is another investor. Very often it is a market maker or a high-frequency trading firm, whose business is keeping buy and sell orders in the book all day and earning the spread, while trying not to lose it to traders who know more than it does.

That trade-off is the whole of our game Make the Market. You set the bid and the ask yourself, and find out how hard it is to earn the spread without being picked off by traders who know the true price.

Work it out on your own numbers

• Stock average calculatorYour average price across several buys, and where you break even.
• Make the MarketSet the prices yourself and see what the spread is for.

This lesson explains ideas. It is not advice about what to buy, sell or hold.