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The Chaos of Second Price Auctions

Second price auctions seem like they are all the rage.  One of the challenges in second price auctions is that a bid could theoretically be very high, yet the payout actually be very low if the gap between a bid and the second bid is significant.

One situation where this could be problematic is if the publisher in an ad auction requires a minimum payout higher than the second price but lower than the highest bid.  Theoretically, the impression could be lost by paying the second price in a situation where the bidder has clearly indicated his willingness to pay more for the impression.

This is increasingly critical as audience targeting and new retargeting techniques become more common because the spread between the sparse high performing data points and the “other impressions” is growing rapidly.  Media buying efficiencies based on techniques such as RTB are resulting a world of have and have-not impressions.  So how do publishers and advertisers find equilibrium?

Google has overcome this by allowing publishers to introduce a floor that acts as an artificial bid.  If a floor was $1.00, but the second bid was less than $1.00, the price paid by the winning bidder becomes $1.00, meeting the publishers minimum expectation while delivering the impression that the winner wanted to buy.  This sounds great!

There is a problem though.  Because the bids and asks (unlike in many electronic financial exchanges such as Archipelago) are closed, publishers increasingly feel pressured to use floors to daisy chain impressions, manipulating bidding to maximize revenue.  Floors are used something like this:

  • Suspecting a situation with significant disequilibrium between first and second bids, a publisher might set a floor of $5.00.  When the floor is higher than the first bid, the impression is passed back to the publisher.
  • The publisher than sends the impression back to the exchange, with a new $4.00 floor.
  • Repeat until auction is executed.

In a world of RTB, this is a situation hard to police and frankly, one that the exchange is not super-incented to fix as it extracts higher eCPMs.

What makes this really nuts is that, as publishers create and manipulate tiers to attempt to discover bid prices, advertisers are encouraged to adjust bids to attempt to discover artificial floor prices introduced by publishers.  The result is a constant moving target by both parties, adjusting floors up and down by pennies and dimes while advertisers adjust bids and frankly, experience wholesale changes in liquidity (campaigns come and go) that throw an unpredictable wrench in all these algorithms.

I know lots of startups are thinking hard about these issues.  It is great that we live in a market with so much white space.

4 Responses to “The Chaos of Second Price Auctions”

  1. Cogblog Discusses The Complexities Of The Second-Price Ad Auction; Microsoft’s Online Operation Burning Through Hundreds Of Millions | Says:

    […] Brent Halliburton does a great post on second-price auctions on Cogblog this week. Halliburton talks about some of the issues around the second-bid auctions, […]

  2. NBC Universal Targeting Audience; Creative Agencies Targeting Tech; MediaMind Targeting IPO Says:

    […] Cogmap's Brent Halliburton writes about the second-price auction and its "chaos." He writes, "One of the challenges in second price auctions is that a bid could theoretically be very high, yet the payout actually be very low if the gap between a bid and the second bid is significant." Halliburton thinks this may not be good for publishers. Read why. […]

  3. Sabotosh Says:

    In an RTB system I’m sure publishers will try to push CPM’s higher by setting floor prices artificially high / continually adjusting floors.

    But this is not new; savvy publishers who sell to adnets (with default CPM floors) use this technique every day. Rubicon, Pubmatic, and Admeld even have businesses around this technique.

    However, the savviest publishers (and optimizers) know that each hop loses them 5-10% of the IMPR’s. They also know an IMPR that has been bounced around is less valuable on the return trip (now the referring URL is; a bounced IMPR stripped of data now becomes undifferentiated IMPR inventory. Once you mix in these other variables it’s not as clear.

    I’m not sure whether this is not just a pricing problem (or opportunity) in any system.

  4. Adam Says:

    Musing on whether or not RTB market makers could exist…