Latency, Liquidity and Price Discovery

34 Pages Posted: 24 Aug 2008 Last revised: 13 Apr 2012

See all articles by Ryan Riordan

Ryan Riordan

Queen's University - Smith School of Business; Ludwig-Maximilians-University Munich, Faculty of Business Administration (Munich School of Management)

Andreas Storkenmaier

Karlsruhe Institute of Technology

Date Written: November 22, 2011

Abstract

The speed of trading is an important factor in modern security markets. We still know relatively little about the e ffect of speed on liquidity and price discovery, two important aspects of market quality. On April 23rd, 2007, Deutsche Boerse made the most important upgrade to their trading system since 2002. With the 8.0 release of Xetra, system latency was reduced from 50 ms to 10 ms. Both quoted and eff ective spreads decreases post upgrade. This increase in liquidity, is due to dramatically lower adverse selection costs that are only partially translated into higher liquidity. We interpret this as a decrease in the competition between liquidity suppliers who are able to increase their revenues by more than 185 million Euros. The contribution of quotes to price discovery doubles to 90% post upgrade, indicating that prices are more effcient.

Keywords: Liquidity, Latency, Execution Speed, Exchange Systems, Price Discovery

JEL Classification: G14

Suggested Citation

Riordan, Ryan and Storkenmaier, Andreas, Latency, Liquidity and Price Discovery (November 22, 2011). Journal of Financial Markets, Forthcoming, Available at SSRN: https://ssrn.com/abstract=1247482 or http://dx.doi.org/10.2139/ssrn.1247482

Ryan Riordan (Contact Author)

Queen's University - Smith School of Business ( email )

Smith School of Business, Queen's University
143 Union Street
Kingston, Ontario K7L 3N6
Canada

Ludwig-Maximilians-University Munich, Faculty of Business Administration (Munich School of Management) ( email )

Schackstr. 4
Munich, 80539
Germany

Andreas Storkenmaier

Karlsruhe Institute of Technology ( email )

Kaiserstraße 12
Karlsruhe, Baden Württemberg 76131
Germany