Can Sub-Penny Pricing Reduce Trading Costs?

37 Pages Posted: 22 Oct 2004

See all articles by Bidisha Chakrabarty

Bidisha Chakrabarty

Saint Louis University - Richard A. Chaifetz School of Business

Kee H. Chung

State University of New York at Buffalo - School of Management

Date Written: October 2004

Abstract

We examine the effect of tick size on quotation behavior in a naturally-controlled experimental setting. Of the top six Electronic Communications Networks (ECNs), three allow sub-penny quotes (group S) and three do not (group P). For a sample of stocks that trade on all six of these ECNs, we find that group S ECNs have narrower spreads than group P ECNs, especially for low-price stocks. Even after correcting for left-truncation and price discreteness, we find that spreads for the same stocks are tighter on group S ECNs, suggesting that a smaller tick size fosters greater price competition. We find that the one penny tick is frequently a binding constraint on the inside spread and the relaxation of the binding constraint would result in a 0.7 cent (16%) reduction in the inside spread.

Keywords: Decimalization, Sub-penny Quotation, Markov Chain Monte Carlo, Quote Aggressiveness, Spreads, Electronic Communications Networks

JEL Classification: C15, G14, G19

Suggested Citation

Chakrabarty, Bidisha and Chung, Kee H., Can Sub-Penny Pricing Reduce Trading Costs? (October 2004). Available at SSRN: https://ssrn.com/abstract=607765 or http://dx.doi.org/10.2139/ssrn.607765

Bidisha Chakrabarty

Saint Louis University - Richard A. Chaifetz School of Business ( email )

3674 Lindell Blvd
St. Louis, MO MO 63108-3397
United States
3149773607 (Phone)
3149771479 (Fax)

HOME PAGE: http://business.slu.edu/departments/finance/faculty-staff/bidisha-chakrabarty

Kee H. Chung (Contact Author)

State University of New York at Buffalo - School of Management ( email )

Buffalo, NY 14260
United States
716-645-3262 (Phone)
716-645-3823 (Fax)

HOME PAGE: http://mgt.buffalo.edu/faculty/academic-departments/finance/faculty/kee-chung.html

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