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Strategic Speed Choice by High-Frequency Traders under Speed Bumps

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  • Jun Aoyagi

Abstract

We study how high-frequency traders (HFTs) strategically decide their speed level in a market with a random speed bump. If HFTs recognize the market impact of their speed decision, they perceive a wider bid-ask spread as an endogenous upward-sloping cost of being faster. We find that the speed elasticity of the bid-ask spread (slope of the endogenous cost function) negatively depends on the expected length of a speed bump since a longer delay makes market makers insensitive to HFTs' speed increment. Hence, speed bumps promote the investment of HFTs in high-speed technology by reducing the marginal cost of getting faster, undermining their intended purpose of protecting market makers. Depending on the expected length of a bump, an arms race among HFTs exhibits both complementarity and substitution. These findings explain the ambiguous empirical results regarding speed bumps and adverse selection for market makers.

Suggested Citation

  • Jun Aoyagi, 2019. "Strategic Speed Choice by High-Frequency Traders under Speed Bumps," ISER Discussion Paper 1050, Institute of Social and Economic Research, Osaka University.
    • Handle: RePEc:dpr:wpaper:1050
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    File URL: https://www.iser.osaka-u.ac.jp/library/dp/2019/DP1050.pdf
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    Cited by:

    1. Kaihua Qin & Liyi Zhou & Yaroslav Afonin & Ludovico Lazzaretti & Arthur Gervais, 2021. "CeFi vs. DeFi -- Comparing Centralized to Decentralized Finance," Papers 2106.08157, arXiv.org, revised Jun 2021.
    2. Vasilios Mavroudis & Hayden Melton, 2019. "Libra: Fair Order-Matching for Electronic Financial Exchanges," Papers 1910.00321, arXiv.org.

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