Equity Trading Game
and Tutorial
May 7, 2004
Directors:
Sanjiv Parekh, John Kogel
Assistant Directors:
J.P. Carlucci, Andrew Lisy,
Juthica Mallela, Raja Surapanani, Sarika Singh
Welcome
• Sloan Trading Room Task Force was established
in 1997 by Prof. Andrew Lo.
• Trading room is used for research, trading
games and simulations, and finance classes.
• Types of trading games include: equity, fixed
income, derivatives, and foreign exchange.
• Information:
• Email Us:
Equity Trading Game and Tutorial
http://mitsloan.mit.edu/trader
[email protected]
Agenda
•
•
•
•
•
•
•
Today’s Game: 2 Stocks
Trading Interface
Trading Mechanics: Bid-Ask
Accessing Private Information
Two Practice Games
Questions and Answers
The Final Game
Equity Trading Game and Tutorial
Case Scenario
• Two Stocks
– ABC Company
– CRA Corporation
• Two periods: Year 1 and Year 2
• 0% interest rate, no cost to borrow money
• Dividend paid at end of each period
Equity Trading Game and Tutorial
Private Information and Prices
• Different parties may have private information
in the market. This information may give you an
advantage in trading.
• Bid and Ask prices may reflect what private
information other traders have
• If you know what the stock should be worth,
take advantage of wrong prices through
arbitrage
Equity Trading Game and Tutorial
Game Setup
• Dividend results rely on the state of the
economy and firms
• The ABC Company has 3 different possible
states in each period
• The CRA Corporation has 4 different possible
states in each period
Equity Trading Game and Tutorial
Stock Fundamentals
Dividend
ABC
x
Poor economic conditions,
labor strike
0
y
Poor economic conditions,
no strike
12
Fair economic conditions,
good labor relations
24
z
•
Realized events determine
each stocks’ realized
dividends
•
Realized dividends
determine each stocks’
price
Dividend
CRA
w
Poor economic conditions,
labor strike
0
•
Events are all equally likely
x
Poor economic conditions,
no strike
12
•
y
Fair economic conditions,
no strike
12
z
Fair economic conditions,
good labor relations
24
Traders will receive private
information about which
event is realized
Equity Trading Game and Tutorial
ABC Payoff Tree
0
0
x
y
z
0
•
Dividend in Period 2
depends on events realized
in Period 1 and Period 2
•
Starting out, probability of
each event is equal
12
x
0
Now
y
12
Period 0
x
y
z
12
24
z
12
24
Period 1
x
y
z
12
24
Period 2
Equity Trading Game and Tutorial
ABC Payoff Tree
0
x, 1/2
y, 1/2
z
0
Private Information:
0
Period 1: not z, Period 2: not z
12
x, 1/2
0
Now y, 1/2
12
x, 1/2
y, 1/2
z
12
24
z
•
Use your Private Information
to calculate the new expected
stock price
12
24
Period 1
x
y
z
12
24
Period 2
Equity Trading Game and Tutorial
Min: 0
Max: 24
E [Price] = 9
ABC Payoff Tree in Period 2
0
Now
Period 1
x, 1/2
y, 1/2
z
12
•
Event y occurred, resulting in
$12 dividend.
•
Private Information still holds
•
What is the expected value of
ABC now?
24
Period 2
Min: 0
Max: 12
E [Price] = 6
Equity Trading Game and Tutorial
Trading Mechanics
• Traders who want to sell stocks at a certain price
post an Ask
• Traders who want to buy stocks at a certain
price post a Bid
• Only Market Makers have the ability to post
Bids and Asks
Equity Trading Game and Tutorial
The Bid-Ask Spread
BID
ASK
158 1/8
158 7/8
Market maker buys
Market taker sells
Market maker sells
Market taker buys
Equity Trading Game and Tutorial
Stay Within the Spread
Bid
buy
160
sell
159
$$$
•
•
Ask
sell
159
buy
160
$$$
Do not trade outside the spread
Be the market maker with unsophisticated traders in the market
Equity Trading Game and Tutorial
Being the Market Maker
Ask
90
89*
Bid
80
81*
MARKET
New Bid Makes the Market
New Ask Makes the Market
(Market Maker)
(Market Maker)
• Bid-Ask spread goes from 10 to 8 once
the new bid and the new ask make the market
Equity Trading Game and Tutorial
Being the Market Maker
Ask
90
Bid
80
91
79
MARKET
Bid does NOT Make the
Market
Equity Trading Game and Tutorial
Ask does NOT Make the
Market
Terminology
• Going Long: buy the stock
– You think the stock price will go up
• Going Short: sell the stock
– You think the stock price will go down
– Selling more units than you have, known as short
selling, ends up with negative number of units.
– In this game, you can short sell as much as you want
– Have to cover short position at end by buying back
the stock. Done automatically in the game.
Equity Trading Game and Tutorial
Trading Interface
You can borrow
or lend at a 0%
interest rate
Stock Names
Seconds remaining for
current trading period.
Traders in the FTS
markets determine prices
Equity Trading Game and Tutorial
Realized payouts
displayed here
Individual
endowments
Logging In
Enter any trading name
(at least 3 characters)
Type in the actual names
of each trader on the team
DO NOT PRESS CONNECT UNTIL ASKED TO DO SO
Equity Trading Game and Tutorial