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Trading in Fragmented Markets

Author

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  • Baldauf, Markus
  • Mollner, Joshua
Abstract
We study fragmentation of equity trading using a model of imperfect competition among exchanges. In the model, increased competition drives down trading fees. However, additional arbitrage opportunities arise in fragmented markets, intensifying adverse selection. Due to these opposing forces, the effects of fragmentation are context dependent. To empirically investigate the ambiguity in a single context, we estimate key parameters of the model with order-level data for an Australian security. According to the estimates, the benefits of increased competition are outweighed by the costs of multi-venue arbitrage. Compared with the prevailing duopoly, we predict the counterfactual monopoly spread to be 23% lower.

Suggested Citation

  • Baldauf, Markus & Mollner, Joshua, 2021. "Trading in Fragmented Markets," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 56(1), pages 93-121, February.
    • Handle: RePEc:cup:jfinqa:v:56:y:2021:i:1:p:93-121_4
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    Citations

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    Cited by:

    1. Babus, Ana & Parlatore, Cecilia, 2022. "Strategic fragmented markets," Journal of Financial Economics, Elsevier, vol. 145(3), pages 876-908.
    2. Watson, Ethan D. & Woods, Donovan, 2022. "Exchange introduction and market competition: The entrance of MEMX and MIAX," Global Finance Journal, Elsevier, vol. 54(C).
    3. Bastidon, Cécile & Jawadi, Fredj, 2024. "Trade fragmentation and volatility-of-volatility networks," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 91(C).
    4. Ari Kutai & Daniel Nathan & Milena Wittwer, 2024. "Exchanges for government bonds? Evidence during COVID-19," Bank of Israel Working Papers 2024.03, Bank of Israel.
    5. Irtisam, Rasheek & Sokolov, Konstantin, 2023. "Do stock exchanges specialize? Evidence from the New Jersey transaction tax proposal," Journal of Banking & Finance, Elsevier, vol. 154(C).
    6. Baldauf, Markus & Mollner, Joshua, 2022. "Fast traders make a quick buck: The role of speed in liquidity provision," Journal of Financial Markets, Elsevier, vol. 58(C).
    7. Shahadat Hossain, 2022. "High-Frequency Trading (HFT) and Market Quality Research: An Evaluation of the Alternative HFT Proxies," JRFM, MDPI, vol. 15(2), pages 1-31, January.
    8. Sagade, Satchit & Scharnowski, Stefan & Theissen, Erik & Westheide, Christian, 2024. "A tale of two cities: Inter-market latency and fast-trader competition," SAFE Working Paper Series 430, Leibniz Institute for Financial Research SAFE.
    9. Colin M. Van Oort & Ethan Ratliff-Crain & Brian F. Tivnan & Safwan Wshah, 2023. "Adaptive Agents and Data Quality in Agent-Based Financial Markets," Papers 2311.15974, arXiv.org.
    10. Suchismita Mishra & Le Zhao, 2021. "Order Routing Decisions for a Fragmented Market: A Review," JRFM, MDPI, vol. 14(11), pages 1-32, November.
    11. Johannes Muhle-Karbe & Eyal Neuman & Yonatan Shadmi, 2024. "Fluid-Limits of Fragmented Limit-Order Markets," Papers 2407.04354, arXiv.org.
    12. Lausen, Jens & Clapham, Benjamin & Gomber, Peter & Bender, Micha, 2022. "Drivers and effects of stock market fragmentation - Insights on SME stocks," SAFE Working Paper Series 367, Leibniz Institute for Financial Research SAFE.

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