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A central limit order book (“CLOB”) is a trade execution model based on a transparent system that matches customer orders (bids and offers) on a ‘price/time priority’ basis.

Outstanding offers to buy or sell are stored in a queue and filled in a priority sequence, by price and time of entry.

The principle of price/time priority refers to how orders are prioritized for execution.

Orders are first ranked according to their price. Then orders of the same price are then ranked depending on when they were entered.

The highest (“best”) bid order and the lowest (“cheapest”) offer order constitutes the best available market price.

Customers can routinely cross the bid/ask spread and benefit from low-cost execution. (You’re able to enter limit orders “in between” the bid and ask.)

They also can see market depth or the “stack” in which customers can view bid orders for various sizes and prices on one side vs. viewing offer orders at various sizes and prices on the other side.

The CLOB is by definition fully transparent, real-time, anonymous, and low cost in execution.

The use of a CLOB is common for highly standardized securities and small trade sizes.

In the CLOB model, customers can trade directly with dealers, dealers can trade with other dealers.

And most importantly, customers can trade directly with other customers anonymously.

CLOB vs. RFQ

In contrast to the CLOB approach is the Request For Quote (“RFQ”) trading method.

RFQ is an asymmetric trade execution model.

In this method, a customer queries a finite set of participant market makers who quote a bid/offer (“a market”) to the customer.

The customer may only “hit the bid” (sell to the highest bidder) or “lift the offer” (buy from the cheapest seller).

The customer is prohibited from stepping inside the bid/ask spread and trying to reduce their execution fees.

Contrary to the CLOB model, customers can only trade with dealers. They can not trade with other customers.

And most importantly, they can not make markets themselves.

Trade execution costs are lower when more market participants can compete for order flow versus when orders are routed to a limited number of market makers with (potentially) non-competitive quotes.