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Order Exposure and Liquidity Coordination: Does Hidden Liquidity Harm Price Efficiency?

Author

Listed:
  • Cebirogly, Gökhan

    (University of Vienna)

  • Hautsch, Nikolaus

    (University of Vienna)

  • Horst, Ulrich

    (Humboldt University Berlin)

Abstract

We show that the excessive use of hidden orders causes artificial price pressures and abnormal asset returns. Using a simple game-theoretical setting, we demonstrate that this effect naturally arises from mis-coordination in trading schedules between traders, when suppliers of liquidity do not sufficiently disclose their trade intentions. As a result, hidden liquidity can increase trading costs and induce excess price fluctuations unrelated to information. Using NASDAQ order book data, we find strong empirical support and illustrate that hidden liquidity is higher if bid-ask spreads are smaller and relative tick sizes are higher.

Suggested Citation

  • Cebirogly, Gökhan & Hautsch, Nikolaus & Horst, Ulrich, 2017. "Order Exposure and Liquidity Coordination: Does Hidden Liquidity Harm Price Efficiency?," Rationality and Competition Discussion Paper Series 28, CRC TRR 190 Rationality and Competition.
    • Handle: RePEc:rco:dpaper:28
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    JEL classification:

    • G02 - Financial Economics - - General - - - Behavioral Finance: Underlying Principles
    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors

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