A Challenger to the Limit Order Book: The NYSE Specialist
35 Pages Posted: 27 Feb 2007
Date Written: February 26, 2007
This paper gives a new answer to the challenging question raised by Glosten (1994): "Is the electronic order book inevitable?". While the order book enables traders to compete to supply anonymous liquidity, the specialist system enables one to reap the benefits from repeated interaction. We compare a competitive limit order book and a limit order book with a specialist, like the NYSE. Thanks to non-anonymous interaction, mediated by brokers, uninformed investors can obtain good liquidity from the specialist. This, however, creates an adverse selection problem on the limit order book. Market liquidity and social welfare are improved by the specialist if adverse selection is severe and if brokers have long horizon, so that reputation becomes a matter of concern for them. In contrast, if asymmetric information is limited, spreads are wider and utilitarian welfare is lower when the specialist competes with the limit order book than in a pure limit order book market.
Keywords: limit order book, specialist, hybrid market
JEL Classification: G10, G24, D82
Suggested Citation: Suggested Citation