Fragmentation and Strategic Market-Making

67 Pages Posted: 20 Sep 2014 Last revised: 19 Apr 2018

Date Written: April 2018

Abstract

Information technology, infrastructure enhancement, and arbitrage strategies all contribute to link trading venues in fragmented markets. Our paper highlights a new cross-market linking channel: the interdependence of liquidity providers' inventory costs. We use a two-venue duopoly model involving strategic risk-averse market-makers. Costs to provide immediacy depend on market-makers' inventory aggregated across venues, implying that absorbing a shock in one venue simultaneously changes marginal costs in all other venues. Moreover, market-makers strategically choose which shock(s) to absorb. These two forces may lead to competitive prices and enhanced liquidity. Using Euronext proprietary data, we uncover evidence for these cross-market inventory cost linkages.

Keywords: Market fragmentation, strategic price competition, cross-market inventory cost linkage

JEL Classification: 360

Suggested Citation

Daures-Lescourret, Laurence and Moinas, Sophie, Fragmentation and Strategic Market-Making (April 2018). Available at SSRN: https://ssrn.com/abstract=2498277 or http://dx.doi.org/10.2139/ssrn.2498277

Laurence Daures-Lescourret (Contact Author)

ESSEC Business School ( email )

3 Avenue Bernard Hirsch
CS 50105 CERGY
CERGY, CERGY PONTOISE CEDEX
France
+33 1 34 43 33 62 (Phone)
+33 1 34 43 32 12 (Fax)

Sophie Moinas

Toulouse School of Economics ( email )

Toulouse 1 Capitole University
Place Anatole-France
Toulouse Cedex, F-31042
France

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