Quotes, Order Flow, and Price Discovery (Revision of 1-95) (Revised: 3-96)
In its attempt to integrate the trading of NYSE-listed stocks across market places, the SEC has caused the implementation of three electronic systems which provide a partial integration of these markets. The paper analyzes the implications of this partial integration and shows how it has created market niches in which non-NYSE markets can prosper. The empirical analysis shows: The bid and asked prices of the NYSE quote equal the best prices displayed across all markets most of the time. Non-NYSE markets attract a significant portion of their volume for reasons other than matching or bettering the NYSE quote, such as "payment for order flow." When non-NYSE markets post better bids or offers, they do attract additional order flow, but substantial order flow still flows to other markets. In posting better bids or offers, non-NYSE markets do contribute to "price discovery."
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