Liquid speed: A congestion fee for low-latency exchanges

Rotman School of Management Working Paper No. 3377346

European Finance Association 2020 Helsinki

38 Pages Posted: 26 Jul 2019 Last revised: 22 May 2020

See all articles by Michael Brolley

Michael Brolley

Wilfrid Laurier University

Marius Zoican

University of Toronto at Mississauga - Department of Management; University of Toronto - Rotman School of Management

Date Written: May 22, 2020

Abstract

Trading activity surges associated with latency arbitrage are costly, as they lead to both lower liquidity and inefficient investments in order processing capacity that remains idle 90% of the time. A congestion message fee on liquidity-taking orders alleviates both concerns. The fee surges during activity bursts, as high-frequency traders (HFTs) simultaneously race to market. A higher fee limits burst intensity, which reduces adverse selection and narrows spreads. Exchanges have strong incentives to replace co-location subscriptions with congestion fees to extract higher revenues from HFTs. A calibration exercise suggests a minimum congestion fee between 15-35% of the average latency arbitrage opportunity.

Keywords: high-frequency trading, trade surges, congestion pricing, market design

JEL Classification: G10, G14, G23

Suggested Citation

Brolley, Michael and Zoican, Marius, Liquid speed: A congestion fee for low-latency exchanges (May 22, 2020). Rotman School of Management Working Paper No. 3377346. Available at SSRN: https://ssrn.com/abstract=3377346

Michael Brolley

Wilfrid Laurier University ( email )

Lazaridis Hall, 4071
75 University Avenue
Waterloo, Ontario N2L 3C5
Canada

HOME PAGE: http://www.mikerostructure.com

Marius Zoican (Contact Author)

University of Toronto at Mississauga - Department of Management ( email )


Canada

University of Toronto - Rotman School of Management ( email )

105 St. George Street
Toronto, Ontario M5S 3E6 M5S1S4
Canada

HOME PAGE: http://www.mariuszoican.org

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