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Equilibrium fast trading

Author

Listed:
  • Biais, Bruno
  • Foucault, Thierry
  • Moinas, Sophie

Abstract

High speed market connections improve investors׳ ability to search for attractive quotes in fragmented markets, raising gains from trade. They also enable fast traders to obtain information before slow traders, generating adverse selection, and thus negative externalities. When investing in fast trading technologies, institutions do not internalize these externalities. Accordingly, they overinvest in equilibrium. Completely banning fast trading is dominated by offering two types of markets: one accepting fast traders, the other banning them. Utilitarian welfare is maximized with (i) a single market type on which fast and slow traders coexist and (ii) Pigovian taxes on investment in the fast trading technology.

Suggested Citation

  • Biais, Bruno & Foucault, Thierry & Moinas, Sophie, 2015. "Equilibrium fast trading," Journal of Financial Economics, Elsevier, vol. 116(2), pages 292-313.
  • Handle: RePEc:eee:jfinec:v:116:y:2015:i:2:p:292-313
    DOI: 10.1016/j.jfineco.2015.03.004
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    References listed on IDEAS

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    Keywords

    High-frequency trading; Externalities; Welfare;

    JEL classification:

    • D4 - Microeconomics - - Market Structure, Pricing, and Design
    • D62 - Microeconomics - - Welfare Economics - - - Externalities
    • G1 - Financial Economics - - General Financial Markets
    • G20 - Financial Economics - - Financial Institutions and Services - - - General
    • L1 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance

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