3 research outputs found
The Impact of new Execution Venues on European Equity Markets’ Liquidity – The Case of Chi-X
With the Markets in Financial Instruments Directive in effect since November 2007, new trading venues have emerged in European equities trading, among them Chi-X. This paper analyzes the impact of this new market entrant on the home market as well as on consolidated liquidity of French blue chip equities, newly tradable on Chi-X. Our findings suggest that owing to this new competition the home market’s liquidity has enhanced. This is apparently due to the battle for order flow which results in narrower spreads and increased market depth. These results imply that overall liquidity in a virtually consolidated order book is in the French case higher than without the new competitor
UK equity market microstructure in the age of machine
Financial markets perform two major functions. The first is the provision of liquidity
in order to facilitate direct investment, hedging and diversification; the second is to
ensure the efficient price discovery required in order to direct resources to where they
can be best utilised within an economy. How well financial markets perform these
functions is critical to the financial welfare of every individual in modern economies.
As an example, retirement savings across the world are mostly invested in capital
markets. Hence, the functioning of financial markets is linked to the standard of living
of individuals. Technological advancements and new market regulations have in
recent times significantly impacted how financial markets function, with no period in
history having witnessed a more rapid pace of change than the last decade. Financial
markets have become very complex, with most of the order execution now done by
computer algorithms. New high-tech trading venues, such as dark pools, also now play
outsized roles in financial markets. A lot of the impacts of these developments are
poorly understood. In the EU particularly, the introduction of the Markets in Financial
Instruments Directive (MiFID) and advancements in technology have combined to
unleash a dramatic transformation of European capital markets. In order to better
understand the role of high-tech trading venues in the modern financial markets’
trading environment generally and in the UK in particular, I conduct three studies
investigating questions linked to the three major developments in financial markets
over the past decade; these are algorithmic/high-frequency trading, market
fragmentation and dark trading. In the first study, I examine the changing relationship
between the price impact of block trades and informed trading, by considering this
phenomenon within a high-frequency trading environment on intraday and inter-day
bases. I find that the price impact of block trades is stronger during the first hour of
trading; this is consistent with the hypothesis that information accumulates overnight
during non-trading hours. Furthermore, private information is gradually incorporated
into prices despite heightened trading frequency. Evidence suggests that informed
traders exploit superior information across trading days, and stocks with lower
transparency exhibit stronger information diffusion effects when traded in blocks, thus
informed block trading facilitates price discovery. The second study exploits the
regulatory differences between the US and the EU to examine the impact of market
fragmentation on dimensions of market quality. Unlike the US’s Regulation National
Market System, the EU’s MiFID does not impose a formal exchange trading linkage
or guarantee a best execution price. This has raised concerns about consolidated
market quality in increasingly fragmented European markets. The second study
therefore investigates the impact of visible trading fragmentation on the quality of the
London equity market and find a quadratic relationship between fragmentation and
adverse selection costs. At low levels of fragmentation, order flow competition
reduces adverse selection costs, improves market transparency and enhances market
efficiency by reducing arbitrage opportunities. However, high levels of fragmentation
increase adverse selection costs. The final study compares the impact of lit and dark
venues’ liquidity on market liquidity. I find that compared with lit venues, dark venues
proportionally contribute more liquidity to the aggregate market. This is because dark
pools facilitate trades that otherwise might not easily have occurred in lit venues when
the spread widens and the limit order queue builds up. I also find that informed and
algorithmic trading hinder liquidity creation in lit and dark venues, while evidence
also suggests that stocks exhibiting low levels of informed trading across the aggregate
market drive dark venues’ liquidity contribution