High Frequency Trading and Fragility

Arbeitspapier

We show that limited dealer participation in the market, coupled with an informational friction resulting from high frequency trading, can induce demand for liquidity to be upward sloping and strategic complementarities in traders’ liquidity consumption decisions: traders demand more liquidity when the market becomes less liquid, which in turn makes the market more illiquid, fostering the initial demand hike. This can generate market instability, where an initial dearth of liquidity degenerates into a liquidity rout (as in a flash crash). While in a transparent market, liquidity is increasing in the proportion of high frequency traders, in an opaque market strategic complementarities can make liquidity U-shaped in this proportion as well as in the degree of transparency.

Object Details

• Language: Englisch

References and Relationships

• Bibliographic citation: Series: CESifo Working Paper ; No. 6279

Classification and Topics

• Classification: Wirtschaft ; General Financial Markets: General (includes Measurement and Data) ; Asset Pricing; Trading Volume; Bond Interest Rates ; Information and Market Efficiency; Event Studies; Insider Trading
• Subject: market fragmentation ; high frequency trading ; flash crash ; asymmetric information

Contributors, Places and Time

• Event: Geistige Schöpfung
• (who): Cespa, Giovanni ; Vives, Xavier
• Event: Veröffentlichung
• (who): Center for Economic Studies and ifo Institute (CESifo)
• (where): Munich
• (when): 2016

Further information

• Handle: http://hdl.handle.net/10419/155521
• Last update: 10.03.2025, 11:43 AM CET