Block trade explained: definition and examples

Block trading is a common practice among institutional investors who need to place large orders for stocks and bonds. Learn more about block trades.

What is a block trade?

A block trade is a privately negotiated contract that is made away from public marketplaces to avoid impacting the security’s price. Typically, block trades are large in size. For example, the NASDAQ defines a block trade as involving at least 10,000 shares of stock, or a transaction worth over $200,000.

Block trading is performed by hedge funds and institutional investors, rather than retail traders, given the sheer size of their portfolios.

How does block trading work?

Block trading works through contracts directly between the counterparties involved, such as futures or options. Block trades are usually sell orders, but can also be buy orders. They typically require an intermediary such as a bank or a specialised broker, also known as a block trading facility or blockhouse.

The order is negotiated privately, usually at a favourable rate – known as a blockage discount.

As block trades take place outside of normal market operations, they’re classed as over-the-counter transactions. Other market participants will only become aware of the order once it is completed and recorded on an order book or shows up in the daily volume activity.

This is to ensure that the large order doesn’t have an outsized impact on the company’s share price. Huge changes in supply or demand can disrupt trading by artificially inflating or deflating a security’s price.

Typically, large orders cannot be filled as a whole and have to be broken up into smaller pieces. This also acts as another way of minimising volatility.

If a block trade is disclosed before being made public on an order book, anyone acting on the information would be said to be ‘front running’, which is a prohibited act and regarded as manipulation or abuse. This is why block trades are looked at cautiously by a lot of investors, and is also what causes most parties looking to create large orders to go through a regulated intermediary.

Block trade example

An institutional investor decides to sell 200,000 shares of a company at the current market price of $15 per share. This is a huge, million-dollar transaction, that could have a massive impact on the share price. Especially when entered in a single transaction, it could cause other investors to panic sell their holdings too.

Given the size of the order, the $15 asking price wouldn’t hold either. The execution would likely gradually get worse as supply floods the market and the shares get cheaper. This could also lead to speculative short selling, further deflating the price.

To avoid this, the investor decides to block trade via a bank. The bank receives the 200,000 sell order and attempts to find a single buyer. If this fails, they could break it up into manageable pieces and list, for example, 80 sell orders for 2500 shares at $15 each.

Block trade vs cross trade

A cross trade occurs when a buy and sell order for the same asset offset each other and is not recorded on the exchange’s books. This practice is not permitted on most major exchanges as it can be used to manipulate prices.

While block trades also occur off of an exchange’s books, they are a permitted method of trading as long as best practices are met. Blockhouses are financial institutions that are equipped to carry out such large orders and will always ensure an exchange is aware of the transaction.