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A dynamic limit order market with fast and slow traders

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  • Hoffmann, Peter

Abstract

We study the role of high-frequency trading in a dynamic limit order market. Being fast is valuable because it enables traders to revise outstanding limit orders upon news arrivals when interacting with slow market participants. On the one hand, the existence of fast traders can help to reduce the inefficiency that is rooted in the risk of being "picked off" after unfavourable price movements and therefore allows more gains from trade to be realized. On the other hand, slow traders face a relative loss in bargaining power which leads them to strategically submit limit orders with a lower execution probability, thereby reducing trade. Due to this negative externality, the equilibrium level of investment is always welfare-reducing. The model generates additional testable implications regarding the effects of high-frequency trading on order flow statistics.

Suggested Citation

  • Hoffmann, Peter, 2012. "A dynamic limit order market with fast and slow traders," MPRA Paper 44621, University Library of Munich, Germany, revised Jan 2013.
    • Handle: RePEc:pra:mprapa:44621
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    File URL: https://mpra.ub.uni-muenchen.de/52569/17/MPRA_paper_52569.pdf
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    References listed on IDEAS

    as
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    7. Jean-Edouard Colliard & Thierry Foucault, 2012. "Trading Fees and Efficiency in Limit Order Markets," Review of Financial Studies, Society for Financial Studies, vol. 25(11), pages 3389-3421.
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    Cited by:

    1. Menkveld, Albert J., 2013. "High frequency trading and the new market makers," Journal of Financial Markets, Elsevier, vol. 16(4), pages 712-740.
    2. Brogaard, Jonathan & Garriott, Corey, 2019. "High-Frequency Trading Competition," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 54(4), pages 1469-1497, August.

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    More about this item

    Keywords

    High-frequency trading; Limit Order Market;

    JEL classification:

    • C72 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Noncooperative Games
    • D62 - Microeconomics - - Welfare Economics - - - Externalities
    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G19 - Financial Economics - - General Financial Markets - - - Other

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