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Trading fees and efficiency in limit order markets


  • Thierry Foucault

    () (GREGH - Groupement de Recherche et d'Etudes en Gestion à HEC - HEC Paris - Ecole des Hautes Etudes Commerciales - CNRS - Centre National de la Recherche Scientifique)

  • Jean-Edouard Colliard


We study competition between a dealer (OTC) market and a limit order market. In the limit order market, investors can choose to be "makers" (post limit orders) or "takers" (hit limit orders) whereas in the dealer market they must trade at dealers' quotes. Moreover, in the limit order market, investors pay a trading fee to the operator of this market ("the matchmaker"). We show that an increase in the matchmaker's trading fee can raise investors' ex-ante expected welfare. Actually, it induces makers to post more aggressive offers and thereby it raises the likelihood of a direct trade between investors. For this reason as well, a reduction in the matchmaker's trading fee can counter-intuitively raise the OTC market share. However, entry of a new matchmaker results in an improvement in investors' welfare, despite its negative effect on trading fees. The model has testable implications for the effects of a change in trading fees and their breakdown between makers and takers on various measures of market liquidity.

Suggested Citation

  • Thierry Foucault & Jean-Edouard Colliard, 2012. "Trading fees and efficiency in limit order markets," Working Papers hal-00722602, HAL.
  • Handle: RePEc:hal:wpaper:hal-00722602
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    References listed on IDEAS

    1. Cantillon, Estelle & Yin, Pai-Ling, 2011. "Competition between exchanges: A research agenda," International Journal of Industrial Organization, Elsevier, vol. 29(3), pages 329-336, May.
    2. Burton Hollifield & Robert A. Miller & Patrik Sandås & Joshua Slive, 2006. "Estimating the Gains from Trade in Limit-Order Markets," Journal of Finance, American Finance Association, vol. 61(6), pages 2753-2804, December.
    3. Gehrig, Thomas, 1993. "Intermediation in Search Markets," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 2(1), pages 97-120, Spring.
    4. Thierry Foucault & Ohad Kadan & Eugene Kandel, 2013. "Liquidity Cycles and Make/Take Fees in Electronic Markets," Journal of Finance, American Finance Association, vol. 68(1), pages 299-341, February.
    5. Cantillon, Estelle & Yin, Pai-Ling, 2008. "Competition between Exchanges: Lessons from the Battle of the Bund," CEPR Discussion Papers 6923, C.E.P.R. Discussion Papers.
    6. Thierry Foucault & Albert J. Menkveld, 2008. "Competition for Order Flow and Smart Order Routing Systems," Journal of Finance, American Finance Association, vol. 63(1), pages 119-158, February.
    7. Katya Malinova & Andreas Park, 2015. "Subsidizing Liquidity: The Impact of Make/Take Fees on Market Quality," Journal of Finance, American Finance Association, vol. 70(2), pages 509-536, April.
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    Cited by:

    1. Degryse, Hans & Van Achter, Mark & Wuyts, Gunther, 2012. "Internalization, Clearing and Settlement, and Liquidity," CEPR Discussion Papers 8765, C.E.P.R. Discussion Papers.
    2. Vince Bourke & David Porter, 2015. "The Effects of Make and Take Fees in Experimental Markets," Working Papers 15-19, Chapman University, Economic Science Institute.
    3. Hoffmann, Peter, 2013. "A dynamic limit order market with fast and slow traders," Working Paper Series 1526, European Central Bank.
    4. Markus Baldauf & Joshua Mollner, 2015. "Trading in Fragmented Markets," Discussion Papers 15-018, Stanford Institute for Economic Policy Research.
    5. Nathalie Oriol & Alexandra Rufini & Dominique Torre, 2015. "Should Dark Pools be Banned from Regulated Exchanges?," GREDEG Working Papers 2015-21, Groupe de REcherche en Droit, Economie, Gestion (GREDEG CNRS), University of Nice Sophia Antipolis.
    6. David A. Cimon, 2016. "Broker Routing Decisions in Limit Order Markets," Staff Working Papers 16-50, Bank of Canada.
    7. repec:spr:joecth:v:64:y:2017:i:2:d:10.1007_s00199-016-0989-9 is not listed on IDEAS
    8. Marios Panayides & Barbara Rindi & Ingrid M. Werner, 2017. "Trading Fees and Intermarket Competition," Working Papers 595, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
    9. Gomber, Peter & Sagade, Satchit & Theissen, Erik & Weber, Moritz Christian & Westheide, Christian, 2013. "Competition/fragmentation in equities markets: A literature survey," SAFE Working Paper Series 35, Research Center SAFE - Sustainable Architecture for Finance in Europe, Goethe University Frankfurt.
    10. Johannes A. Skjeltorp & Elvira Sojli & Wing Wah Tham, 2012. "Identifying cross-sided liquidity externalities," Working Paper 2012/20, Norges Bank.
    11. Bernd Schwaab, 2012. "Conditional probabilities and contagion measures for euro area sovereign default risk," Research Bulletin, European Central Bank, vol. 17, pages 6-11.
    12. repec:uts:finphd:34 is not listed on IDEAS
    13. Philip Vermeulen, 2012. "Bank dependence and investment during the financial crisis," Research Bulletin, European Central Bank, vol. 17, pages 12-14.
    14. Thomas Johann & Erik Theissen, 2013. "Liquidity measures," Chapters,in: Handbook of Research Methods and Applications in Empirical Finance, chapter 10, pages 238-255 Edward Elgar Publishing.
    15. Comerton-Forde, Carole & Putniņš, Tālis J., 2015. "Dark trading and price discovery," Journal of Financial Economics, Elsevier, vol. 118(1), pages 70-92.
    16. Hoffmann, Peter, 2016. "Adverse selection, market access, and inter-market competition," Journal of Banking & Finance, Elsevier, vol. 65(C), pages 108-119.
    17. Hans Degryse & Frank de Jong & Vincent van Kervel, 2015. "The Impact of Dark Trading and Visible Fragmentation on Market Quality," Review of Finance, European Finance Association, vol. 19(4), pages 1587-1622.
    18. Hoffmann, Peter, 2014. "A dynamic limit order market with fast and slow traders," Journal of Financial Economics, Elsevier, vol. 113(1), pages 156-169.
    19. Hoffmann, Peter, 2012. "A dynamic limit order market with fast and slow traders," MPRA Paper 39855, University Library of Munich, Germany.
    20. Simone Manganelli, 2012. "The impact of the Securities Markets Programme," Research Bulletin, European Central Bank, vol. 17, pages 2-5.
    21. Hoffmann, Peter, 2012. "A dynamic limit order market with fast and slow traders," MPRA Paper 44621, University Library of Munich, Germany, revised Jan 2013.
    22. Sarah Draus, 2012. "Market Power on Exchanges: Linking Price Impact to Trading Fees," CSEF Working Papers 490, Centre for Studies in Economics and Finance (CSEF), University of Naples, Italy.
    23. Bruno Biais & Thierry Foucault, 2014. "HFT and Market Quality," Bankers, Markets & Investors, ESKA Publishing, issue 128, pages 5-19, January-F.
    24. Albert Menkveld & Boyan Jovanovic, 2016. "Dispersion and Skewness of Bid Prices," 2016 Meeting Papers 1395, Society for Economic Dynamics.
    25. Brogaard, Jonathan & Hendershott, Terrence & Riordan, Ryan, 2013. "High frequency trading and price discovery," Working Paper Series 1602, European Central Bank.

    More about this item


    inter-market competition; Limit order markets; liquidity; make/take fees; OTC markets; trading fees;

    JEL classification:

    • G00 - Financial Economics - - General - - - General
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation
    • G20 - Financial Economics - - Financial Institutions and Services - - - General
    • L10 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - General


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