Need for speed? Exchange latency and liquidity
By Albert Menkveld - Professor of Finance
06-04-2018 | 15:14
Flash boys want flash markets. Exchanges invest to make their matching engines clock at ever higher speeds. High-frequency traders claim they can provide more liquidity as a result. Investors — the low-frequency traders in the market — benefit from a lower bid-ask spread. Is this true? Is it even true that high-frequency traders themselves benefit from faster markets?
In a new study co-authored with Marius Zoican, Albert Menkveld claims the answer to both questions could in fact be: no, no one benefits. And if none of the market participants benefit, then it cannot be good for the exchange either. A puzzle.
The study proposes a model of trading with speed at the heart of it. What drives the ‘surprising’ findings is that only high-frequency traders have the speed to benefit from a faster, sub-millisecond exchange. As market makers, high-frequency traders can update their price quotes faster on news. But, equally important, as speculators they can hit the quotes of rivals faster on news. The market becomes more of a speed game between high-frequency market makers and high-frequency ‘bandits.’
Read the article: Menkveld, A. J., & Zoican, M. A. (2017). Need for speed? Exchange latency and liquidity. Review of Financial Studies, 30(4), 1188-1228.
About Albert Menkveld
Albert Menkveld is Professor of Finance at VU Amsterdam and Fellow at the Tinbergen Institute. In 2002, he received a Tinbergen PhD from Erasmus University Rotterdam. He was on visiting positions for multiple years at various US schools (NYU, Wharton, and Stanford). Albert's research agenda is focused on securities trading, liquidity, asset pricing, and financial econometrics. He has published in various journals, for example, the Journal of Finance, the Journal of Financial Economics, and the Review of Financial Studies. Albert is Associate Editor at the Review of Asset Pricing Studies and a Research Fellow at the Centre for Economic Policy Research (CEPR).