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Who Provides Liquidity and When: An Analysis of Price vs. Speed Competition on Liquidity and Welfare

61 Pages Posted: 21 Jan 2017 Last revised: 13 Nov 2017

Xin Wang

University of Illinois at Urbana-Champaign

Mao Ye

University of Illinois at Urbana-Champaign; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: September 30, 2017

Abstract

We incorporate discrete tick size and allow non-high-frequency traders (non-HFTs) to supply liquidity in the framework of Budish, Cramton, and Shin (2015). When adverse selection risk is low or tick size is large, the bid-ask spread is typically below one tick, and HFTs dominate liquidity supply. In other situations, non-HFTs dominate liquidity supply by undercutting HFTs, because supplying liquidity to HFTs is always less costly than demanding liquidity from HFTs. A small tick size improves liquidity, but also leads to more mini-flash crashes. The cancellation-to-trade ratio, a popular proxy for HFTs, can have a negative correlation with HFTs’ activity.

Keywords: Algorithmic trading, High-frequency trading, Liquidity, Tick Size

JEL Classification: G10, G20

Suggested Citation

Wang, Xin and Ye, Mao, Who Provides Liquidity and When: An Analysis of Price vs. Speed Competition on Liquidity and Welfare (September 30, 2017). Available at SSRN: https://ssrn.com/abstract=2902984 or http://dx.doi.org/10.2139/ssrn.2902984

Xin Wang

University of Illinois at Urbana-Champaign ( email )

214 David Kinley Hall
1407 W. Gregory
Urbana, IL 61801
United States

Mao Ye (Contact Author)

University of Illinois at Urbana-Champaign ( email )

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

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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