Strategic Liquidity Supply in a Market with Fast and Slow Traders
Thomas H. McInish
University of Memphis - Fogelman College of Business and Economics
University of Texas at El Paso
March 1, 2012
Modern equity markets have both fast traders such as dealers, market makers, and high frequency traders and slow traders such as retail clients. We model and show empirically that latency differences allow fast liquidity suppliers to pick off slow liquidity demanders at prices inferior to the NBBO. This trading strategy is highly profitable for the fast traders. We estimate that the fast traders earn more than $233 million per year at the expense of the slow traders. Investigating the decrease in NYSE latency on 10 March 2010, we also show that when this market became faster, execution quality improved markedly for fast liquidity demanders, but improved only minimally for slow liquidity demanders.
Number of Pages in PDF File: 49
Keywords: Regulation NMS, Limit Order, Quote Update, Trade Execution Quality
JEL Classification: G14, G18, G19working papers series
Date posted: September 9, 2011 ; Last revised: March 19, 2012
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