What is Tick Trading?
- 18 Oct 2024
- By: BlinkX Research Team
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A tick size denotes the smallest increment of price fluctuation in a market. It's typically expressed in US dollars or cents. Thus, if you notice a shift in the price of stocks, it usually happens by at least one penny in the US or one rupee in India. Tick trading involves buying and selling stocks based on these small price movements, generally within some seconds or minutes. These tick movements are very important to traders because they might reveal shifts in the mood of the market and trading habits. Read on to learn more about what is tick in trading, and the key elements involved in it in detail.
How Does a Tick Trading Work?
Different types of investments have different minimum price changes called tick sizes. For example, the NIFTY 50 Futures contract changes in increments of ₹0.25, while gold futures change in increments of ₹0.10.
So, if the price of a NIFTY 50 Futures contract is ₹1,400, it can only go up or down by ₹0.25 at a time. That means it could move from ₹1,400 to ₹1,400.25, but not from ₹1,400 to ₹1,400.10 because ₹0.10 is smaller than the smallest allowed change.
In 2015, the Securities and Exchange Commission (SEC) approved a test to increase the minimum price changes for about 1,200 small-cap stocks. These were companies with market values of around ₹22,500 crore and daily trading volumes below one million shares on average. The test aimed to study how larger minimum price changes might affect trading in these stocks and their overall liquidity.
The test began in October 2016 and lasted for two years. It was part of ongoing research into ways to improve trading conditions for smaller companies in the Indian stock market.
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Table of Content
- How Does a Tick Trading Work?
- Components of Trading Tick
- Dependency of Tick Trading on Tick Size
- Characteristics of Tick size
- How Is Tick Size Measured in Indian and US Stock Markets?
Components of Trading Tick
To properly understand what a is tick in trading, it is essential to first learn about the components involved in it. Let’s understand them.
- Tick Size: This is the smallest increment by which the price of an asset can move. Tick traders focus on these small price changes to make their trades.
- Precision and Speed: Tick traders operate with high speed and accuracy. They execute many trades in a short period, aiming to capitalize on small, rapid price movements in the market.
- Scalping Strategy: This is a common approach in tick trading where traders aim to make quick profits by exploiting small differences between the buying and selling prices of assets. They buy at a lower price and sell at a slightly higher price in a short timeframe.
- Algorithmic and High-Frequency Trading: Many tick traders use computer programs and algorithms to automate their trading strategies. These programs can analyze market conditions and execute trades rapidly based on predefined rules. They take advantage of tiny price differentials to generate profits.
- Market Monitoring: Traders continuously monitor market movements and price changes in real time. They use this information to make quick decisions and execute trades promptly.
- Risk Management: Given the fast-paced nature of tick trading, risk management is crucial. Traders often employ stop-loss orders and other risk mitigation strategies to protect their investments from sudden price fluctuations.
Overall, tick trading strategies involve a combination of proper monitoring, rapid decision-making, and leveraging small price differentials to generate profits in a short period.
Dependency of Tick Trading on Tick Size
After learning what a is tick in trading, let’s find out how it depends on the tick size. The dependency of tick trading on tick size is quite significant, as mentioned below.
- Unit of Measurement: Tick size serves as the fundamental unit of measurement in tick trading. Traders analyze and capitalize on price movements that occur in these small increments.
- Precision in Trading: Traders focus on the accuracy and speed of their trades within the limit of tick size. They aim to execute trades at optimal points within these increments to maximize profitability.
- Quantifying returns and risks: Traders use tick size to calculate how much returns they can make or lose on each trade. It helps them figure out if a trade is worth taking based on the potential profit compared to the risk involved.
- Market Liquidity and Efficiency: Tick size influences market liquidity and efficiency by standardizing price movements. It ensures that market participants can trade efficiently within a defined price range, reducing potential market inefficiencies.
- Regulatory Impact: Tick size is regulated and can vary between different markets and securities. Regulatory changes in tick size can impact trading strategies and market dynamics, influencing how tick traders operate.
Characteristics of Tick size
Tick size refers to the minimum price increment at which securities can trade. Here are some characteristics of tick size.
- Regulated Minimum: Tick sizes are typically regulated by stock exchanges or financial regulators. They set the minimum price movement allowed for trading a particular security. This regulation helps maintain orderly trading and liquidity.
- Standardization: Tick sizes are standardized across securities within the same exchange. Different exchanges or markets may have different tick sizes depending on the trading norms and the types of securities traded.
- Impact on Liquidity: Tick size can affect the liquidity of a security. A smaller tick size allows for finer price movements, which can attract more trading activity and increase liquidity. Conversely, larger tick sizes may reduce trading activity, especially for smaller stocks or less actively traded securities.
- Bid-Ask Spread: Tick size influences the bid-ask spread—the difference between the highest price that a buyer is willing to pay for a security (bid) and the lowest price at which a seller is willing to sell (ask). A smaller tick size generally results in a narrower bid-ask spread, making it cheaper for investors to buy and sell.
- Price Discovery: Tick size affects price discovery—the process of determining the market price of a security based on supply and demand. A smaller tick size allows prices to adjust more frequently, reflecting changes in market conditions more accurately.
- Market Efficiency: In highly liquid markets with small tick sizes, securities prices can adjust quickly to new information, enhancing market efficiency. However, in less liquid markets or with larger tick sizes, prices may adjust more slowly, potentially leading to less efficient price discovery.
- Trading Strategies: Tick size can influence trading strategies employed by market participants. High-frequency traders, for instance, often benefit from smaller tick sizes as they can profit from small price movements.
- Market Fragmentation: Tick size can contribute to market fragmentation when different venues have different tick size regulations. This can affect where and how trading occurs, potentially leading to less efficient markets overall.
How Is Tick Size Measured in Indian and US Stock Markets?
In both the Indian and US stock markets, tick size refers to the minimum price movement by which the price of a stock can fluctuate. Here is a comparison of how tick size is measured in each market:
| US Stock Market | Indian Stock Market (NSE/BSE) |
| Decimal Pricing: In the US, most stocks are traded with decimal pricing, which means prices are quoted to two decimal places (e.g., $10.00, $10.01, $10.02, etc.) | Decimal Pricing: Like the US, stocks in the Indian stock market are also quoted in decimal pricing format, generally up to two decimal places (e.g., ₹100.00, ₹100.10, ₹100.20, etc.). |
| Tick Size: The tick size is typically the smallest increment by which the price of a stock can move. For most stocks listed on major exchanges like the NYSE and NASDAQ, the tick size is 1 cent ($0.01). | Tick Size: For stocks priced up to ₹10, the tick size is ₹0.05. For stocks priced above ₹10, the tick size is ₹0.05 for the first ₹10 and ₹0.10 thereafter. |
| Exceptions: There are some exceptions, especially for stocks priced below $1.00, which might have smaller tick sizes (e.g., $0.0001 increments). | Special Cases: There are exceptions to these tick sizes, especially for stocks that are traded in the Trade for Trade (T segment), where tick sizes may be different due to regulatory reasons or volatility measures. |
Understanding tick sizes is crucial for traders as it determines the minimum price movement required for a trade to occur, influencing trading strategies and market liquidity.
Conclusion
Tick trading refers to making transactions based on the smallest possible price changes called ticks. The trading strategy enables traders to adjust their strategy in reaction to volatility in the market. It can also enhance risk management. Tick size indicates how easy it is to buy or sell something without the need for a big price difference. Using this strategy, traders can assess the transaction costs and ensure that all parties follow the criteria of regulators like SEBI. A better understanding of tick size helps traders implement this trading strategy. Moreover, you can use a stock market app that provides accurate information on price changes.
