Need for speed? Exchange latency and liquidity

Albert J. Menkveld; Marius A. Zoican

doi:10.1093/rfs/hhx006

Need for speed? Exchange latency and liquidity

Albert J. Menkveld^*, Marius A. Zoican

^*Corresponding author for this work

Research output: Contribution to Journal › Article › Academic › peer-review

Abstract

A faster exchange does not necessarily improve liquidity. On the one hand, speed enables a high-frequency market maker (HFM) to update quotes faster on incoming news. This reduces payoff risk and thus lowers the competitive bid-ask spread. On the other hand, HFM price quotes are more likely to meet speculative high-frequency bandits, and thus are less likely to meet liquidity traders. This raises the spread. The net effect of exchange speed depends on a security's news-to-liquidity-trader ratio.

Original language	English
Pages (from-to)	1188-1228
Number of pages	41
Journal	The Review of Financial Studies
Volume	30
Issue number	4
DOIs	https://doi.org/10.1093/rfs/hhx006
Publication status	Published - 2017

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10.1093/rfs/hhx006

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title = "Need for speed? Exchange latency and liquidity",

abstract = "A faster exchange does not necessarily improve liquidity. On the one hand, speed enables a high-frequency market maker (HFM) to update quotes faster on incoming news. This reduces payoff risk and thus lowers the competitive bid-ask spread. On the other hand, HFM price quotes are more likely to meet speculative high-frequency bandits, and thus are less likely to meet liquidity traders. This raises the spread. The net effect of exchange speed depends on a security's news-to-liquidity-trader ratio.",

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year = "2017",

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AB - A faster exchange does not necessarily improve liquidity. On the one hand, speed enables a high-frequency market maker (HFM) to update quotes faster on incoming news. This reduces payoff risk and thus lowers the competitive bid-ask spread. On the other hand, HFM price quotes are more likely to meet speculative high-frequency bandits, and thus are less likely to meet liquidity traders. This raises the spread. The net effect of exchange speed depends on a security's news-to-liquidity-trader ratio.

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Need for speed? Exchange latency and liquidity

Abstract

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