Why Discrete Price Fragments U.S. Stock Exchanges and Disperses Their Fee Structures

71 Pages Posted: 26 Nov 2014 Last revised: 17 Feb 2017

Yong Chao

University of Louisville - College of Business - Department of Economics

Chen Yao

University of Warwick

Mao Ye

University of Illinois at Urbana-Champaign

Date Written: January 20, 2017

Abstract

Stock exchange operators compete for order flow by setting "make" fees for limit orders and "take" fees for market orders. When traders quote continuous prices, they can choose prices that perfectly neutralize any fee division, and traders stream to the exchange with the lowest total fee. The one-cent minimum tick size (minimum price variation) for traders prevents perfect neutralization. The two-sided price competition (i) allows an exchange operator to establish exchanges that differ in fee structure to engage in second-degree price discrimination; and (ii) destroys the Bertrand equilibrium, leads to frequent fee changes, and encourages the entry of new exchanges.

Keywords: price dispersion, market fragmentation, make-take fees, exchange competition, two-sided market

JEL Classification: L11, L5, G10, G20

Suggested Citation

Chao, Yong and Yao, Chen and Ye, Mao, Why Discrete Price Fragments U.S. Stock Exchanges and Disperses Their Fee Structures (January 20, 2017). Available at SSRN: https://ssrn.com/abstract=2530572 or http://dx.doi.org/10.2139/ssrn.2530572

Yong Chao

University of Louisville - College of Business - Department of Economics ( email )

Louisville, KY 40292
United States
(502)852-3573 (Phone)
(502)852-7672 (Fax)

HOME PAGE: http://yongchao.us

Chen Yao

University of Warwick ( email )

Warwick Business School
Gibbet Hill Road
Coventry, West Midlands CV47AL
United Kingdom
+44 024 7652 2828 (Phone)

Mao Ye (Contact Author)

University of Illinois at Urbana-Champaign ( email )

406 Wohlers
1206 South 6th Street
Champaign, IL 61820
United States
2172440474 (Phone)

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