Hostname: page-component-78c5997874-lj6df Total loading time: 0 Render date: 2024-11-19T22:52:03.212Z Has data issue: false hasContentIssue false
  • English
  • Français

Fragmentation and Strategic Market-Making

Published online by Cambridge University Press:  11 April 2022

Laurence Daures-Lescourret Open the ORCID record for Laurence Daures-Lescourret [Opens in a new window]  and
Sophie Moinas
Laurence Daures-Lescourret*
Affiliation:
ESSEC Business School
Sophie Moinas
Affiliation:
Toulouse Capitole University Toulouse School of Economics and TSM Research [email protected]
*
[email protected] (corresponding author)
Rights & Permissions [Opens in a new window]

Abstract

Core share and HTML view are not available for this content. However, as you have access to this content, a full PDF is available via the ‘Save PDF’ action button.

How does trading in one venue affect the quoting strategies of market makers in other venues? We develop a two-venue imperfect competition model in which market makers face quadratic costs when absorbing shocks. Nonconstant marginal costs imply that absorbing a shock in one venue simultaneously changes marginal costs in all other venues. Moreover, market makers strategically choose which shock(s) to absorb. These two forces may intensify competition, leading to enhanced liquidity. Using Euronext proprietary data, we track individual best bid and ask quotes of intermediaries in each venue. We uncover evidence of strategic cross-venue market-making behavior which is uniquely predicted by our model.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 58 , Issue 4 , June 2023 , pp. 1675 - 1700
Copyright
© The Author(s), 2022. Published by Cambridge University Press on behalf of the Michael G. Foster School of Business, University of Washington

Footnotes

We are very grateful to an anonymous referee, Jennifer Conrad (the editor), and Christine Parlour (discussant) whose comments helped to improve the paper. We would also like to thank Jonathan Brogaard, Giovanni Cespa, Jean-Edouard Colliard, Thierry Foucault, Andras Fulop, José Miguel Gaspar, Stefano Lovo (discussant), Albert Menkveld, Vincent van Kervel, and seminar participants at the 10th Annual Central Bank Workshop on the Microstructure of Financial Markets, the 24th CEPR/Gerzensee ESSFM Evening Sessions, the 2012 EIF Scientific Morning Conference, the EFMA 2014 Conference, the FMA 2013 European Conference, the FMA 2014 Conference, the 2013 French Finance Association, the 3rd Forum “Market Microstructure: Confronting Many Viewpoints,” the MFA 2014 Conference, the NFA 2014 Conference, and the ESSEC Brown Bag, CSEF, ESADE, the Toulouse Brown Bag seminar, University of Bristol, University of Valencia, the VU Amsterdam seminar, Wilfrid Laurier University, and the Zurich Finance seminar for providing useful comments. We especially thank Patrick Hazart for providing us Euronext data and José Finote from Euronext for insightful discussions. Financial support from the EIF and the ANR (ANR-09-JCJC-0139–01, ANR-10-JCJC-1810–01, and ANR-17-EURE-0010 (Investissements d’Avenir program)) is gratefully acknowledged. Of course, all errors or omissions are ours. This article previously circulated with the title “Liquidity supply in multiple venues.”

References

Baldauf, M., and Mollner, J.. “Trading in Fragmented Markets.” Journal of Financial and Quantitative Analysis, 56 (2021), 93–121.CrossRefGoogle Scholar
Biais, B.; Foucault, T.; and Salanié, F.. “Floors, Dealer Markets and Limit Order Markets.” Journal of Financial Markets, 1 (1998), 253–284.CrossRefGoogle Scholar
Cabon-Dhersin, M.-L., and Drouhin, N.. “A General Model of Price Competition with Soft Capacity Constraints.” Economic Theory, 70 (2020), 95–120.CrossRefGoogle Scholar
Chen, D., and Duffie, D.. “Market Fragmentation.” American Economic Review, 111 (2021), 2247–2274.CrossRefGoogle Scholar
Corwin, S. A., and Coughenour, J. F.. “Limited Attention and the Allocation of Effort in Securities Trading.” Journal of Finance, 63 (2008), 3031–3067.CrossRefGoogle Scholar
Degryse, H.; de Jong, F.; and van Kervel, V.. “The Impact of Dark Trading and Visible Fragmentation on Market Quality.” Review of Finance, 19 (2015), 1587–1622.CrossRefGoogle Scholar
ESMA. “Order Duplication and Liquidity Measurement in EU Equity Markets.” ESMA Economic Report, 2016-1 (2016).Google Scholar
Foucault, T.; Kozhan, R.; and Tham, W. W.. “Toxic Arbitrage.” Review of Financial Studies, 30 (2017), 1053–1094.CrossRefGoogle Scholar
Foucault, T., and Menkveld, A. J.. “Competition for Order Flow and Smart Order Routing Systems.” Journal of Finance, 63 (2008), 119–158.CrossRefGoogle Scholar
Gârleanu, N., and Pedersen, L. H.. “Dynamic Trading with Predictable Returns and Transaction Costs.” Journal of Finance, 68 (2013), 2309–2340, 189–216.CrossRefGoogle Scholar
Hasbrouck, J., and Saar, G.. “Technology and Liquidity Provision: The Blurring of Traditional Definitions.” Journal of Financial Markets, 12 (2009), 143–172.CrossRefGoogle Scholar
Ho, T., and Stoll, H.. “The Dynamics of Dealer Markets Under Competition.” Journal of Finance, 38 (1983), 1053–1074.CrossRefGoogle Scholar
Menkveld, A. J. “High Frequency Trading and the New-Market Makers.” Journal of Financial Markets, 16 (2013), 712–740.CrossRefGoogle Scholar
O’Hara, M., and Ye, M.. “Is Market Fragmentation Harming Market Quality?” Journal of Financial Economics, 100 (2011), 459–474.CrossRefGoogle Scholar
Upson, J.; McInish, T.; and Johnson, B. H.. “Orders Versus Trades on the Consolidated Tape.” Available at SSRN: https://ssrn.com/abstract=2625401 (2018).Google Scholar
van Kervel, V. “Competition for Order Flow with Fast and Slow Traders.” Review of Financial Studies, 28 (2015), 2094–2127.CrossRefGoogle Scholar
Supplementary material: PDF

Daures-Lescourret and Moinas supplementary material

Online Appendix

Download Daures-Lescourret and Moinas supplementary material(PDF)
PDF 740.9 KB