Order Flow Segmentation, Liquidity and Price Discovery: The Role of Latency Delays
55 Pages Posted: 24 Jul 2017 Last revised: 3 Oct 2018
Date Written: March 27, 2018
Latency delays intentionally slow order execution at an exchange, often to protect market makers against latency arbitrage. We study informed trading in a fragmented market, where one exchange introduces a latency delay on market orders. Liquidity improves at the delayed exchange, as informed traders emigrate to the conventional exchange, where liquidity worsens. When the frequency of liquidity trading is high, price discovery improves, at the expense of lower investor welfare; the reverse is true for infrequent liquidity trading. If the exchange with delay technology competes against a conventional exchange, they implement a delay only for sufficiently low market share.
Keywords: Latency delays, speed bumps, market fragmentation, asymmetric information
JEL Classification: G14, G18
Suggested Citation: Suggested Citation