Block trading explained: avoiding slippage with privately negotiated trades

A block trade is a privately negotiated purchase or sale of large blocks of assets settled over the counter. Block trades are useful for buying or selling vast numbers of shares, derivatives, bonds or cryptocurrencies without slippage affecting an asset’s market price.

This article will introduce the concept of block trading, explaining what a block trade is and why traders use them to buy and sell significant positions.

What is block trading?

Block trading is a form of over-the-counter trading in which high-net-worth market participants can buy or sell an asset in bulk without causing market price movements. Typically, OTC block trades involve institutional investors, hedge funds or relatively wealthy individual investors.

When an institution or high-net-worth trader wants to buy or sell an asset in bulk, they submit a request-for-quote — or RFQ — to a block trading platform. The platform, which is often a broker-dealer, breaks the trade up into smaller blocks and market makers provide a quote for an execution price. If the trader accepts the price, the trade is executed OTC rather than in the open market, meaning the buy or sell order never hits the order books.

By using a block trading platform instead of a typical exchange order book, the trader is assured of their final execution price. The trade and its preliminary negotiation are completed in private, meaning high-net-worth traders can buy or sell massive positions without risking price slippage.

Some block trading platforms enable traders to deploy sophisticated strategies involving multiple instruments in a single high-volume trade. Suppose a high-net-worth trader wanted to take advantage of a favorable spread by buying a large volume of perpetual swap contracts while simultaneously selling futures contracts for the same underlying asset. Using a block trading platform that supports such multi-leg trades, they can simplify hedging and other advanced strategies in one convenient place.

The advantage of deploying such strategies using a block trading platform is that the trader is sure that both legs will be filled at an agreed price — i.e., there's no chance that only one leg will be filled, which would create unwanted risk exposure.

What is price slippage?

Price slippage — often called simply slippage — refers to the movement of an asset’s price, prompted by a trader’s actions. Price slippage can occur when a market is not liquid enough to absorb a very large buy or sell order at the current price.

Suppose a high-net-worth trader wants to sell 1,000 BTC at exactly $40,000. If they were to submit such a large order via a typical exchange order book, their sell order would likely exhaust all bids at $40,000.

If they had used a market order, their order would start to fill at lower and lower prices until wholly executed. If they had used a limit order, it’s possible that only part of their order would have been filled. The final execution price is predetermined between the buyer and seller with a block trade and, thus, guaranteed.

When the trader in the above example submitted their massive 1,000 BTC sell, other traders would see it on the order book and likely short-sell BTC to make gains from anticipated price slippage, creating an even more significant move to the downside. This could result in an even less favorable execution price for the institution or high-net-worth trader.

Because an order the size typical of a block trade would likely create price slippage, the trader will usually offer a small discount to the current price when selling or a premium when buying. This incentivizes a market maker to take the trade as it creates an opportunity for them to make gains.

Why block trade?

Instead of publicly submitting a trade to the order book, high-net-worth traders and institutions can use a block trading platform to stealthily execute large trades without prompting a response from the market that would impact the asset’s price. Consequently, they can quickly buy and sell vast numbers of shares, cryptocurrencies or derivatives at a more favorable price than possible in the open market.

Block trades are most common in relatively illiquid markets where large trades would significantly impact the asset’s market price. Selling in volume would drive the price down unfavorably, and buying would have the opposite effect.

Block trades can also be useful for high-net-worth participants wanting to buy a large volume of an asset in a market with a lot of supply and little demand. A prospective buyer may request quotes for a large order, and sellers may offer a discount on the market price to offload an entire position quickly.