High Frequency Traders: Taking Advantage of Speed
Princeton University - Department of Economics; National Bureau of Economic Research (NBER)
University of Cincinnati - Department of Finance - Real Estate
September 26, 2013
We propose a model of dynamic trading where a strategic high frequency trader receives an imperfect signal about future order flows, and exploits his speed advantage to optimize his quoting policy. We determine the provision of liquidity, order cancellations, and impact on low frequency traders as a function of both the high frequency trader's latency, and the market volatility. The model predicts that volatility leads high frequency traders to reduce their provision of liquidity. Finally, we analyze the impact of various policies designed to potentially regulate high frequency trading.
Number of Pages in PDF File: 51
Keywords: High Frequency Trading, Liquidity, Order Cancellations, Competition for Order Flow, Tobin Tax, Order Resting Time, Order Cancellation Tax
JEL Classification: G10.working papers series
Date posted: September 28, 2013
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