Island Goes Dark: Transparency, Fragmentation, Liquidity Externalities, and Multimarket Regulation

57 Pages Posted: 6 Jun 2003

See all articles by Terrence Hendershott

Terrence Hendershott

University of California, Berkeley - Haas School of Business

Charles M. Jones

Columbia Business School

Date Written: October 29, 2003

Abstract

In response to a regulatory enforcement, the Island electronic communications network recently stopped displaying its limit order book in the three most active exchange-traded funds (ETFs). As a result of this reduction in pre-trade transparency, this dominant venue's share of trading activity and price discovery falls, fragmenting the market. ETF prices adjust more slowly when Island goes dark, and substantial price discovery moves from the ETF market to the futures market. Island's effective and realized spreads increase, while effective and realized spreads fall in other markets. The increase in spreads on Island more than offsets the reduction in trading costs in other markets, increasing overall trading costs. Overall ETF market quality falls.

Keywords: Transparency, multi-market trading, liquidity, fragmentation, market microstructure

JEL Classification: G1, G2, D43

Suggested Citation

Hendershott, Terrence J. and Jones, Charles M., Island Goes Dark: Transparency, Fragmentation, Liquidity Externalities, and Multimarket Regulation (October 29, 2003). AFA 2004 San Diego Meetings. Available at SSRN: https://ssrn.com/abstract=396661 or http://dx.doi.org/10.2139/ssrn.396661

Terrence J. Hendershott (Contact Author)

University of California, Berkeley - Haas School of Business ( email )

545 Student Services Building, #1900
2220 Piedmont Avenue
Berkeley, CA 94720
United States

Charles M. Jones

Columbia Business School ( email )

3022 Broadway
Uris Hall Rm 101
New York, NY 10027
United States
(212) 854-4109 (Phone)

HOME PAGE: http://https://www8.gsb.columbia.edu/cbs-directory/detail/cj88

Register to save articles to
your library

Register

Paper statistics

Downloads
1,459
Abstract Views
4,120
rank
11,928
PlumX Metrics