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Competition among high-frequency traders, and market quality

Author

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  • Breckenfelder, Johannes

Abstract

We study empirically how competition among high-frequency traders (HFTs) affects their trading behavior and market quality. Our analysis exploits a unique dataset, which allows us to compare environments with and without high-frequency competition, and contains an exogenous event - a tick size reform - which we use to disentangle the effects of the rising share of high-frequency trading in the market from the effects of high-frequency competition. We find that when HFTs compete, their speculative trading increases. As a result, market liquidity deteriorates and short-term volatility rises. Our findings hold for a variety of market quality and high-frequency trading behavior measures. JEL Classification: G12, G14, G15, G18, G23, D4, D61

Suggested Citation

  • Breckenfelder, Johannes, 2019. "Competition among high-frequency traders, and market quality," Working Paper Series 2290, European Central Bank.
  • Handle: RePEc:ecb:ecbwps:20192290
    Note: 1125999
    as

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    File URL: https://www.ecb.europa.eu//pub/pdf/scpwps/ecb.wp2290~b5fec3a181.en.pdf
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    References listed on IDEAS

    as
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    3. Dimitri Vayanos & Jiang Wang, 2012. "Liquidity and Asset Returns Under Asymmetric Information and Imperfect Competition," Review of Financial Studies, Society for Financial Studies, vol. 25(5), pages 1339-1365.
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    7. Menkveld, Albert J., 2013. "High frequency trading and the new market makers," Journal of Financial Markets, Elsevier, vol. 16(4), pages 712-740.
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    10. Eric Budish & Peter Cramton & John Shim, 2015. "Editor's Choice The High-Frequency Trading Arms Race: Frequent Batch Auctions as a Market Design Response," The Quarterly Journal of Economics, Oxford University Press, vol. 130(4), pages 1547-1621.
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    Cited by:

    1. Foucault, Thierry & Moinas, Sophie, 2018. "Is Trading Fast Dangerous?," TSE Working Papers 18-881, Toulouse School of Economics (TSE).

    More about this item

    Keywords

    competition; high-frequency trading; high-frequency trading strategies; tick size reform;

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
    • D4 - Microeconomics - - Market Structure, Pricing, and Design
    • D61 - Microeconomics - - Welfare Economics - - - Allocative Efficiency; Cost-Benefit Analysis

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