The Impact of Fragmentation, Exchange Fees and Liquidity Provision on Market Quality

36 Pages Posted: 25 Jun 2013 Last revised: 2 Feb 2016

See all articles by Michael J. Aitken

Michael J. Aitken

Macquarie Graduate School of Management

Haoming Chen

University of New South Wales (UNSW)

Sean Foley

University of Sydney Business School

Date Written: January 28, 2016

Abstract

We analyse the impact of two major financial frictions on market quality in a high-frequency environment: market fragmentation and exchange fees. We find fragmentation significantly improves market quality, with benefits increasing with greater fragmentation. Fragmentation significantly reduces spreads for stocks that are least constrained by the minimum tick size, whilst constrained stocks experience significant increases in depth. These changes are driven by the entry of fee-sensitive electronic liquidity providers (ELPs). Consistent with theoretical predictions, we find reductions in exchange trading fees are passed through to market participants. The main improvement in market quality, however, is driven by the entry of new ELPs who benefit from cross-venue market making strategies.

Keywords: Competition, Fragmentation, Alternative Trading System, Trading Fees

JEL Classification: G14

Suggested Citation

Aitken, Michael J. and Chen, Haoming and Foley, Sean, The Impact of Fragmentation, Exchange Fees and Liquidity Provision on Market Quality (January 28, 2016). Available at SSRN: https://ssrn.com/abstract=2284635 or http://dx.doi.org/10.2139/ssrn.2284635

Michael J. Aitken

Macquarie Graduate School of Management ( email )

North Ryde
Sydney, New South Wales 2109
Australia

Haoming Chen

University of New South Wales (UNSW) ( email )

Kensington
High St
Sydney, NSW 2052
Australia

Sean Foley (Contact Author)

University of Sydney Business School ( email )

Sydney
Australia

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