Abstract
The objective of this chapter is to describe and classify the underlying research object for the empirical analysis. Therefore, it provides an introduction to the German equity market in general and to the Frankfurt Stock Exchange (FSE) with its primary trading platform Xetra. It also includes a detailed description of the market model for equities. As the choice of market structure has important implications for the microstructure results, a classification of trading mechanisms is provided and the Xetra trading models are categorized accordingly.
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Market capitalization as a percentage of GDP increased from 23.9% in 1995 to 43.7% in 2005 while share ownership almost doubled between 1997 and 2005, reaching a level of 16.6%. See Deutsches Aktieninstitut (2005), p. 05–3 and p. 08–3. It has to be noted that compared to the US capital market-a completely market oriented system-the German capital market has a large potential for development. Theissen (2003a) describes the development level of the German capital market based upon the dimensions volume and operational efficiency.
Pagano/ Padilla (2005), p. 32 present an analysis comparing explicit and implicit transactions costs for the major European exchanges, concluding that Germany is at the higher end. In contrast to these results, Jain (2003), p. 49f. finds that Germany’s transaction costs are lower than in the UK. Domowitz/Glen/Madhavan (2001), p. 224ff. compare explicit and implicit transaction costs across 42 exchanges worldwide from 1996 to 1998. They find that European exchanges reveal a stronger decrease in implicit transaction costs compared to the US and ascribe this development to technological developments.
The first fully electronic trading system at FSE was introduced in April 1991. The system called IBIS was designed for institutional investors to facilitate their trading. The Xetra trading system replaced IBIS in 1997.
DAX30 is the German blue chip index which includes the thirty largest German companies listed at the FSE. It is comparable to the French CAC40 or the Italian MIB30. For a description of Deutsche Boerse AG’s indices, see Deutsche Boerse AG (2006b).
See Deutsche Boerse AG (2006a), p. 11 and p. 15ff.
Theissen (2002), Theissen (2003b) and Grammig/Schiereck/Theissen (2001) have compared the floor trading mechanism and electronic trading systems (IBIS or Xetra depending on the time period of their samples) in Germany. They find that non-anonymity in floor trading allows the’ skontroführer’ to identify informed traders and to price discriminate accordingly. This leads to a reduced probability of informed trading in the floor trading system. Details on informed trading are given in Chapter 4.2.
Freihube/ Theissen (2001), p. 297 and pp. 302–307 find that Xetra is dominant in the contribution to price discovery for DAX instruments, while the reverse is true for the midcap index MDAX based on data for the first quarter in 1999. Deutsche Boerse AG (2006c), pp. 16–22 shows that since their analysis the Xetra market share in DAX instruments increased further from 89% in March 1999 to 97.4% in 2005. The same holds true for the MDAX segment were the Xetra market share almost tripled from 39% in March 1999 to 92% in 2005. Due to the strong increase in market share in MDAX instruments by now Xetra also plays the major role in price discovery in the MDAX.
Deutsche Boerse AG has been a publicly listed company since 5 February 2001 and a constituent of the DAX index since 23 December 2003. The composition of its shareholders has changed considerably from approx. 80% German banks before the initial public offering to over 80% international investors at the end of 2005.
The acting exchange council was elected for the term of three years on 11 November 2004 and constitutes 24 members. Regular meetings are scheduled three times a year, allowing for extraordinary meetings when necessary. A permanent guest is the Exchange Supervisory Body (Hessian Ministry for Economic Affairs, Transport and Regional Development).
A detailed description of the three segments and their requirements is given in Deutsche Boerse AG’s listing brochures; see Deutsche Boerse AG (2003), p. 7 and Deutsche Boerse AG (2006d), pp. 4–8.
The Entry Standard was introduced on 25 October 2005 as a segment within the open market (Freiverkehr).
To be included in one of the indices, a company has to have its operating headquarters in Germany or the major part of its stock exchange turnover at FSE. A detailed description of the indices’ composition and calculation methodologies is provided in Deutsche Boerse AG (2006b), pp. 16–39.
The TecDAX was launched on 24 March 2003. It was introduced as the smaller-sized successor index to the NEMAX50. The historical index data of the NEMAX50 is continued seamlessly.
This chapter is based on Deutsche Boerse AG (2004a) and (2004b).
Usually price, display and time precedence are implemented in trading; volume precedence is sometimes implemented in block markets (markets for large orders), see Harris (1990), pp. 17–21.
While pre-trade anonymity was implemented with the initial set-up of the trading system in 1997, post-trade anonymity was introduced in a two-step approach on 27 March 2003 and 10 April 2003. This change in market structure led to a significant increase in liquidity, as documented in Hachmeister/ Schiereck (2006), p. 12.
In December 2005, Xetra had 268 participants from 18 different countries. Non-German participants had a share of 49%. See Deutsche Boerse AG (2006a), p. 3.
Exhibit 2–2 consolidates information provided in Deutsche Boerse AG (2004b), p. 11f.
Trading hours were reduced on 1 November 2003, when the close of trading changed from 8:00 pm to 5:30 pm. However, the FSE trading floor remains open until 8:00 pm.
Exhibit 2–3 is adapted from Deutsche Boerse AG (2004b), p. 14.
Schwartz/ Francioni (2004), p. 28f. describe a similar approach for market segmentation and choice of trading model.
Exhibit 2–4 is adapted from Deutsche Boerse AG (2003), p. 10.
Madhavan (1992), p. 608ff. provides a classification among two dimensions, while Madhavan (2000), pp. 225–228 includes a third dimension: the “degree of automation”. As this study focuses on the fully electronic trading system Xetra and not on a comparison floor versus screen based trading there is no need for a further distinction. Domowitz (1993), p. 621 provides a classification of automated trading venues; according to his classification, continuous trading in IBIS classifies as hit-and-take market. Xetra would be classified accordingly.
Auctions enable information concentration, suggesting call auctions are especially valuable when uncertainty over fundamentals is large and market failure is possible. Many continuous markets use single price auction mechanisms when uncertainty is large, i.e. at the opening and closing and as security mechanisms (e.g. volatility interruptions as implemented in the Xetra trading system; see trading safeguards in Chapter 2.3). Madhavan (1992), p. 627 compares an order-driven and a quote-driven setting with a rational expectations model and concludes that if a continuous market fails a trading halt might exacerbate the problem and proposes to switch to auctions.
To prevent settlement failures, as there is no individual credit relationship between the counterparties of a trade, sophisticated mechanisms to ensure creditworthiness of traders are implemented. See Harris (2003), p. 95 and pp. 139–144.
Domowitz (1992), p. 311 provides a description of automated continuous double auction markets: “In automated double auction systems, bids and offers are submitted continuously over time. Transactions occur when the orders cross, i.e. when the price of the best offer to buy is equal to or greater than that of the best offer to sell. Price is determined endogenously in the system, based on order flow and a set of priority rules. These priority rules determine the place of an incoming bid or offer in the queue of orders. Priority can be set in terms of price, time, quantity, order type, and trade classification, among others.”
Brockman/ Chung (2002), p. 522 explain that traders in order-driven markets are free to enter and exit the market whenever they want. In contrast, the market maker in a quote-driven market is obliged to provide bid-ask quotes during trading, thus he does not have a free-entry and free-exit possibility.
In contrast, the LSE does not charge any fee for so-called passive executions during continuous trading, i.e. limit orders standing in the order book. This pricing schedule privileges liquidity providing orders. See London Stock Exchange (2006), p. 2.
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(2007). Institutional Setting. In: Informed Traders as Liquidity Providers. DUV. https://doi.org/10.1007/978-3-8350-9577-9_2
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