Emini S&P taking over price discovery

I think the subject of S&P500 futures price discovery deserves its own thread. Below is a quote from another thread from jaming5002, an S&P clerk who is going to make the move to S&P pit trader. In his comment he believes the S&P pit still acts as the center for S&P price discovery. I will disagree.

I respectfully disagree with your comment on price discovery. IMHO the role of price discovery has mostly shifted to the Emini from the SP. Pit traders stand and watch the ES for price direction.

The reason for this is that the faster technology of the Emini allows all traders to instantaneously affect price with their orders. This means that traders from all over the world armed with the latest information, news etc. have split second influence on what the current price should be.

In contrast, the S&P pit, with its built in time lag, only really reflects the split second price opinion of a couple of hundred Chicago based traders, who drink in the same bars, live in the same area, generally think alike. I.e. “who’s gonna win the playoffs – Da Bulls! Who’s gonna win the Superbowl – Da Bears!”
Because they are all packed together in a pit screaming – they don’t have as easy access to all the information, news etc. that e-traders do.

The net result is that the Emini has taken over the role of price discovery for the S&P 500 market. The only caveat is that because the CME has deliberately made the Emini less attractive for large institutional traders with five times the exchange fees and a tick size 2 ½ times bigger – for large orders, the pit remains the place for price discovery.

 

And all that makes SP and ES after hours globex trading quite interesting.

Oh by the way, as far as news impact in the pits, the saying goes, "First to act, last to know."

 

First of all, thank you for the respectful disagreement. I'll be happy to respond to all posts that show the level of respect your post has shown. Here is a part of one of my previous posts with some other commentary.

I agree with you that the pits days are numbered. As I'm sure you know, the SP already trades on GLOBEX. SP continues to be the contract for price discovery. The sheer size of it makes larger positions easier to enter into. I think SP will always be the contract for size. Not a mini trader myself but I'm sure that if an offer for 1000 or 2000 additional minis came up on the screen at once, the liquidity of the posted bids would disappear quickly. It happens in all elec. markets. This problem has yet to be addressed by any exchange or elec. market and is the lifeline of the pits.

SP is currently traded on GLOBEX around the world, almost 24/7. It reflects the views of all around the world and instantaneous information. Arb. conditions ensure that pit SP and globex SP are priced the same. Pit may disappear but SP wont.

It will be interesting to see what the CME does with the $160 Million it got from the IPO.

Also, please put yourself in the position of a large mutual fund manager, hedge fund manager, spec. or inv. bank. What movement are you likely to follow? People in the pits who've made successful careers trading or retail traders trying to jump on the latest swing. It's been proven that the smart money is right more often than not.

Globex will ensure that SP continues to be THE contract.

 

Perhaps what is needed here is a precise definition of "price discovery". Here are some definitions I found on the web:

The name given to the effect a free market has for finding the ideal price for any security or commodity.
To simplify it down to one transaction, a seller has in mind a bottom limit to the price he's willing to sell at. At the same time, the buyer has in mind a limit to how high she'll go. The ideal price is always the buyer's upper limit, but since neither party discloses their limits to each other, that price has to be discovered when the seller finally makes an offer that's acceptable to the buyer.
Not every individual transaction will be made at the ideal price (some sellers are too willing, some buyers too soft), but the average of a hundred or a thousand transactions will be. Hence, the market “discovers” a price. - from web dictionary

Financial institutions and individual investors alike can look to the futures markets to help determine the best current market prices. That's because the futures market is an independent forum for buyers and sellers who, for whatever reasons, want to make a trade. Futures markets provide ways of collecting all the bids and all the offers and bringing them together. The prices at which these trades are executed determine the best, current market price. In turn, these prices are publicly disseminated, and provide an easy way to determine a product's or instrument's fair price. - from CME

It appears then, that price discovery is when buyers and sellers agree on a price and transact. So price discovery would not be open interest, amount of shorts etc. but the last transaction.

Since the Emini prints its transactions faster than the pit - I think it is valid to say that the S&P Emini has taken over the role of price discovery from the pit contract (to the limits of its liquidity).

In the above I am refering to price discovery during regular trading hours i.e. when there is no big contract to trade on Globex.

 

Thanks guys for this post, That is good stuff and have been thinking about this for some time. I have been following the sp and es contract for some time and have seen a pattern develop here. On the extreme price moves,(where the swing low may be forming) the mini have sold off a few extra ticks than the SP and and turn up sooner that the SP. Coupled with high NYSE Tick count > 800-900 and a possible pierce of the 3rd STD DEV of a bollinger Band, I feel that this set up may be a high probability trade to make. Any comments about this type of trade.

The retail crowd may be hitting eject while the pit traders are making a stand.

One more question????? I firmly believe that the FED has a plunge patrol team that goes in to the future pits and buys the hell out of market to keep the panic level subdue. No facts or evidence, but the price actions has been "fishy" at important inflection points.

 

As far as e-mini's printing faster. How much faster, .2 seconds? Don't you know that all exchanges have market reporters in and above the pits reporting price changes nearly instantaneously? I still maintain the smart money is in the pits. Jef's post says it clearly.

Tea, in one of your earlier posts, you mentioned that pit traders follow the ES? Do you know pit traders? If so, who? Also, I'd be curious to know what you trading background is, how many contracts a day you trade? I'd like to contradict that. In fact, most ES traders I know listen to sqwak boxes of the trading floor as one of their indicators.

 

Tea, are you basing your info on comparisons between data feeds of these two products? Because if you are, you should know that the numbers going out to the data vendors that broadcast SP quotes are delayed by the length of time it takes the pit reporters to input the data. I listen to a sqwuak box and watch the SP chart and the data on the chart is often delayed by a second or two.

 

I've heard the rumors about the Fed buying futures too. Really no way to prove it. If they do, they'd have to come through a broker or two.

Or, think of this scenario. Keeping what you said in mind, Imagine the futures are tanking. Some of the traders believe and are waiting for the fed "to intervene". So with everyone waiting for everyone else to do something at the inflection point, a gutsy hedge fund comes in and buys 500 lots through 5 brokers in the pit. So traders sell them 500. In the meantime, other traders view this as "the fed" and the sign to buy at the bottom. So they buy size, and at the market. This creates almost a short squeze for the traders who sold the 500. They have to cover, so they buy more. In the meantime, buy activity starts showing up on the screens. Creates more demand and buy interest. Upstairs traders start to buy and the market moves on. Gutsy hedge fund makes a shitload.

Next time this situation occurs, gutsy hedge fund has even more ammo(read money) to buy at the key inflection point. So they can afford the risk. So the cycle continues. Some traders lost everything in the crash of 87. Other's walked away with yachts. Just my thoughts.

 

You guys are cutting into my dinner plans

The ES prints faster Time and Sales than the pit SP and it makes moves usually before the SP. Next week, pull up a one-minute chart of both the SP and ES and watch how the ES breaks out first, breaks trendlines first etc. It leads the SP by its nose. So I think ES leads more than just because it prints faster, there are more short term technical traders making moves on the ES regardless of what the SP does in the short term. Its price discovery.

I know a couple of pit traders and I have met several in person. I won't name names because I am going to try to get them to wear little cameras and microphones to record the colusion in the pits.

Lewis Borsellino is one who has said that most SP pit traders just stand around and watch the ES for price direction.

As far as ES traders using squawk box. A lot of people have tried it but most have dropped it as it proved to be a distraction.

Bottom-line – observe the one minute charts of ES and SP and you will see which one leads.

 

Go eat and enjoy your Vino......I have a large glass to sip on as I read these posts.