Introduction:

Did you know, you can trade before the stock markets officially open? Since 2010, the National Stock Exchange (NSE) has allowed for a 15 minute pre-market or pre-open session. This helps to reduce price volatility right at the opening of the market. The market can then open at a price set by genuine supply and demand for security instead of being driven by the price set by the first trade.

What is pre-market trading?

Pre-market trading is all the trades that happen before the trading hours, as the terminology suggests. This may seem counterintuitive to allow traders to buy or sell securities before the markets open for trading for everyone. But it has a substantial operational benefit, and it improves open-price discovery.

What are the advantages of pre-market trading?

  • – Discovering open price

Even when the market is shut for trading, financial news can affect the investing decisions of traders. Many companies release their financial results or other company news in the post-market hours. Pre-market trading allows for the impact of these developments to be reflected in the opening price.

  • – The opening price based on equilibrium price

When the National Stock Exchange allowed pre-market trading in 2010, the argument made in its favour was, it will enable the opening price of a stock to be decided by the demand and supply for the security rather than the rate at which the first trade gets settled.

  • – Minimises volatility

Pre-market trading reduces volatility in opening prices of securities.

  • – Impact of news

The effect of all the news that can potentially affect stock prices gets reflected in the opening price because of pre-market trading.

Are there any risks to pre-market trading?

  • – Poor liquidity

The trading volumes may be low in the pre-market session. Order matching for some trades may be difficult in that case.

  • – Wider buy-ask spread

Lower trading volume may also mean that the spread between the buy and ask prices may be more extensive than in regular trading hours.

  • – Price uncertainties remain

The opening price may not be indicative. When the market opens for trading and more investors come into the trading rink, the premarketing price adjustment may still diverge.

What does the pre-market session involve?

The pre-market session on, National Stock Exchange, for example, runs from 9 AM to 9.15 AM. In these 15 minutes, the first eight minutes are dedicated to order collection, entry, modification, and cancellations. The next seven minutes are for matching orders, confirming trades and making a smooth transition into regular market hours.

What type of trades is allowed in pre-market trading?

Indian stock exchanges allow limit and market orders in the pre-market trading. Limit orders are instructions to sell or buy a stock at a particular price or higher. A market order is one where you can buy or sell right away at the current market price. Traders are not allowed transactions that are valid only for the pre-market session as that may encourage speculation.

Conclusion:

While pre-market trading may give you a first mover’s advantage, especially when there is a market-moving news development, it still comes with its set of risks of which you need to be aware of.