Order Flow Toxicity under the Microscope

55 Pages Posted: 18 Nov 2019 Last revised: 13 Jan 2020

See all articles by David Abad

David Abad

Universidad de Alicante

Magdalena Massot

Universidad de las Islas Baleares

Samarpan Nawn

Indian Institute of Management Udaipur; CFA Institute

Roberto Pascual

Universidad de las Islas Baleares

José Yagüe

University of Murcia

Date Written: January 12, 2020

Abstract

Which components of the order flow convey information and signal toxicity? We empirically show that the net flow of non-marketable orders conveys more information than the widely used trade-initiator-based order imbalance. The net order flow by HFTs rapidly loses information content with time aggregation, consistent with these traders trading on short-lived valuable signals. Updates of standing limit orders, mostly due to HFT, carry information beyond order submissions, suggesting that HFTs’ flickering quotes primarily reflect active risk management rather than manipulative practices. Finally, we find that the HFTs’ order flow, both marketable and non-marketable, signals toxicity, while the non-HFTs’ order flow does not. We conclude that market authorities should track the HFTs’ order flow at or near the best quotes to develop effective leading indicators of order flow toxicity and circuit breaking mechanisms.

Keywords: order flow, toxicity, order imbalance, high-frequency trading, limit orders, market orders, monitoring

JEL Classification: G10, G11, G14, G15

Suggested Citation

Abad, David and Massot, Magdalena and Nawn, Samarpan and Pascual Gascó, Roberto and Yagüe, José, Order Flow Toxicity under the Microscope (January 12, 2020). Available at SSRN: https://ssrn.com/abstract=3474294 or http://dx.doi.org/10.2139/ssrn.3474294

David Abad

Universidad de Alicante ( email )

Campus de San Vicente
Carretera San Vicente del Raspeig
San Vicente del Raspeig, 03690
Spain

Magdalena Massot

Universidad de las Islas Baleares ( email )

Crtra. Valldemossa, km 7.5
Ed. Jovellanos
Palma de Mallorca, Illles Balears 07122
Spain
34 971 172513 (Phone)
34 971 172389 (Fax)

Samarpan Nawn

Indian Institute of Management Udaipur ( email )

Balicha
Udaipur, Rajasthan 313001
India

CFA Institute ( email )

915 East High Street
Charlottesville, VA 22902
United States

Roberto Pascual Gascó (Contact Author)

Universidad de las Islas Baleares ( email )

Ctra. de Valldemossa km 7,5
Departamento de Economia y Empresa
Palma, Baleares
Spain
+34 971 17 13 29 (Phone)
+34 971 17 23 89 (Fax)

José Yagüe

University of Murcia ( email )

Department of Management and Finance
Campus de Espinardo s/n
Murcia, 30100
Spain
+34 868883862 (Phone)
+34 868887537 (Fax)

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