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Market Conditions, Fragility and the Economics of Market Making

54 Pages Posted: 21 Nov 2012 Last revised: 13 Aug 2015

Amber Anand

Syracuse University - Whitman School of Management

Kumar Venkataraman

Southern Methodist University (SMU) - Edwin L. Cox School of Business

Date Written: August 12, 2015

Abstract

Using audit-trail data from Toronto Stock Exchange, we find that market makers scale back in unison when market conditions are unfavorable, which contributes to covariation in liquidity supply, both within, and across stocks. Market conditions lower aggregate participation via their impact on trading profits and risk. Contrary to regulatory view, higher stock volatility is associated with more participation and higher profits, even after controlling for other market conditions, including stock volume. Fragility concerns extend to larger stocks, and to active participants. The Designated Market Maker mitigates periodic illiquidity created by synchronous withdrawal of market makers in large and small stocks.

Keywords: Market Makers; HFTs; Fragility; Volatility; Obligations

JEL Classification: G11, G12, G14, G24

Suggested Citation

Anand, Amber and Venkataraman, Kumar, Market Conditions, Fragility and the Economics of Market Making (August 12, 2015). Journal of Financial Economics (JFE), Forthcoming. Available at SSRN: https://ssrn.com/abstract=2179259 or http://dx.doi.org/10.2139/ssrn.2179259

Amber Anand (Contact Author)

Syracuse University - Whitman School of Management ( email )

721 University Avenue
Syracuse, NY 13244
United States

Kumar Venkataraman

Southern Methodist University (SMU) - Edwin L. Cox School of Business ( email )

P.O. Box 750333
Dallas, TX 75275-0333
United States
214-768-7005 (Phone)
214-768-4099 (Fax)

HOME PAGE: http://people.smu.edu/kumar/

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