What is an 'Auction Market'?

In an auction market, buyers enter competitive bids and sellers enter competitive offers at the same time. The price at which a stock is traded represents the highest price that a buyer is willing to pay and the lowest price that a seller is willing to accept. Matching bids and offers are then paired together, and the orders are executed. The New York Stock Exchange (NYSE) is an example of an auction market.

BREAKING DOWN 'Auction Market'

The process involved in an auction market differs from the process in an over-the-counter market. On the New York Stock Exchange (NYSE), for example, there are no direct negotiations between buyers and sellers as individuals while trades completed over-the-counter are negotiated. Most traditional auctions involve multiple potential buyers or bidders, but only a single seller, whereas auction markets for securities have multiple buyers and multiple sellers, all looking to make deals simultaneously.

Double Auction Markets

An auction market is also referred to as a double auction market. It allows buyers and sellers to submit prices they deem acceptable to a list. When a match between a buyer’s price and a seller’s asking price is found, the trade proceeds at that price. Trades without matches will not be executed.

Examples of the Auction Market Process

Imagine that four buyers want to buy a share of company XYZ  and make the following bids: $10.00, 10.02, 10.03 and $10.06. Conversely, there are four sellers that desire to sell shares of company XYZ, and these sellers submitted offers to sell their shares at the following prices: $10.06, 10.09, 10.12 and $10.13. In this scenario, the individuals that made bids/offers for company XYZ at $10.06 will have their orders executed. All remaining orders will not immediately be executed, and the current price of company XYZ will be $10.06.

Treasury Auctions

The U.S. Treasury holds auctions to finance certain government financial activities. The auction is open to the public and various larger investment entities. Bids are submitted electronically and are divided into competing and non-competing bids depending on the person or entity who places the recorded bid.

Non-competing bids are addressed first because non-competitive bidders are guaranteed to receive a predetermined amount of securities as a minimum and up to a maximum of $5 million. These are most commonly entered by individual investors or those representing small entities.

In competitive bidding, once the auction period closes, all of the incoming bids are reviewed to determine the winning price. Securities are sold to the competing bidders based on the amount listed within the bid. Once all of the securities have been sold, the remaining competing bidders will not receive any securities.

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