The limits of the exchange analogy in the ad marketplace

huayin commented on Open source the ad exchange just now on an issue that has been top of my mind for a while. He says

We need to be cautious of the limitation of any analogy… In my 2c, Ad Exchange marketplace is an order of magnitude more complex than NYSE! The current ad buying/selling ecosystem already underscores this intrinsic complexity…

He’s right, of course. There’s a sort of intellectual shorthand (laziness?) in equating the financial marketplaces and the ad marketplaces. It’s not just me; my friend Roger Ehrenberg, who knows the financial markets inside and out, also makes this analogy. But it’s a useful tool in predicting and shaping the future.

Ads aren’t commodifiable in the sense that, say, soybeans are. I talked about one reason (among many) for this in Information and markets 2. Ads right now, especially with the BT, CT and other data layered on top, are way too varied to be traded on exchanges like commodities. But the ad marketplace is also not as bazaar-like as eBay. Nor is it as consumer or producer dominated as many commodity spot markets (live cattle, say, or soybeans) which are not on exchanges*.

The stock/commodity exchange ecosystems are large, high volume, complicated, economically significant and there are a lot of people who would spend a lot of money for the slightest edge. There is also a ton of public information on what works, how well it works, and its the economic effect. Try finding that for the live cattle market, which may in some respects be a better comparison. Centuries of central clearinghouses, risk sharing, information transparency, spot vs. future markets, intermediaries, analytics, etc. can teach us some useful lessons. Not to mention the reasons and limitations on the evolution of markets from haggling to fixed-price to auction to exchange to derivatives. This history deserves some thought as we try to build a coherent ad marketplace.

I think there’s a better way of doing things in the ad market. There has to be, it’s such a mess right now. So, despite the limitations of the analogy, it’s better than starting from scratch.

* I was talking to a ex-trader friend of mine this morning about this very subject. I asked him why the CBOT had spot markets in butter (note the trading hours: 11:05-11:15am, M-F) but not soybeans. He said it was for sentimental reasons. He also said that the betting among the traders about how many minutes the butter spot market would take to clear (7 minutes vs. 8, say) exceeded the dollar amount of the actual trades in butter.


  1. In my eyes, the key difference between ad markets and other markets is that ad impressions are highly perishable — more perishable than any other commodity. You have no more than a second until an ad call defaults. As a result, you can’t build up a position in the “underlying instrument” — the impression —- for your own books. If you’re buying in the spot market to fulfill a guaranteed delivery contract (i.e. a standard IO), you’ve operating unhedged. Price fluctuations will affect your margin but you can’t make money on the volatility itself, like a market-neutral hedge fund would.

  2. BTW, I love the shout out to Hayek’s “The Use of Knowledge in Society”. It makes me smile to encounter my first Hayek reference in a digital advertising blog.

  3. One key difference is that ad exchanges as they exist today are built on “insider trading” principles and arbitrage. In financial exchanges, the information about each item is standardized information. Not so in the ad exchange world, which requires all buyers to BYOD — bring your own data.

    See my post on this from a couple months ago call Ad Exchanges are NOT Like Financial Exchanges at

  4. @Jordan The only information that is standardized about the assets in financial markets is the SEC filings, price history, and the bidding landscape. That’s a lot compared to advertising markets but I find it strange that you would endorse the efficient market hypothesis ( given the financial events of the last year.

    But I do agree with your larger point that information asymetries in advertising markets are greater than the asymetries with financial markets. That’s a huge point.

  5. Yes and no… the commodity markets have the idea of a “nonstorable” commodity: once you take delivery, you need to use the commodity. Examples include electricity, live cattle, etc. Ad impressions are certainly more perishable than these, although the basic theory and evidence holds. But your point is a good one: the ad market is not like the market for stocks, or gold.

    There’s a spectrum here, where some things (like stocks) cost nothing to store, others (like) oil cost a bit to store, and others are nonstorable (or the cost of storage would quickly eat any possible profit, like electricity.) There’s been considerable work done on this and a bit of controversy over why the spot and futures markets’ prices don’t always converge with nonstorable goods.

    Other perishable marketed goods include hotel rooms and airplane seats and these are sold at auction online also. One complicating twist in the online ad markets is the RTB aspect vs. the customary forward model… few people would respond to an offer to buy a seat on an airplane that leaves in 50ms.

    Re “operating unhedged”… ads have historically been sold in a “forward” market: the upfront, say, or just a contract with a publisher to deliver a certain number of impressions on a specific show or in a specific edition of a publication. The ad exchanges are probably the first time we’ve had a real “spot” market. But because there are no standardized, commoditized contracts, hedging between the two is almost impossible. This is also not uncommon in markets, generally. The only markets where being able to easily hedge is common is the true exchange-traded ones, where a secondary market exists with all the information and liquidity that provides.

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