Liquidity supply in electronic markets

University of Memphis, USA
Journal of Financial Markets (Impact Factor: 1.12). 02/2007; 10(2):144-168. DOI: 10.1016/j.finmar.2006.12.001


We examine the supply of liquidity by proprietary trading desks and hedge funds (PTDH) versus mutual funds, index funds, and insurance companies (MII) across ten bid (ask) steps of the limit order book. We document that institutional investors simultaneously supply liquidity at multiple prices in the limit order book. We also find that PTDHs are more price aggressive liquidity suppliers than MIIs, consistent with hypothesized responses to observed changes in the cost and risk of non-execution. We investigate whether these findings are robust to fast versus slow markets, the volatility of daily returns, and aggregate depth relative to daily volume.

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    • "To provide further evidence on liquidity supply and its evolution in the aftermarket, we calculate quoted depths at the three best bids and asks prior to a trade as an alternative measure. Aitken et al. (2007) find that institutional investors simultaneously supply liquidity at multiple prices in the limit order book. "
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    ABSTRACT: We investigate the trading behavior and liquidity supply of Chinese initial public offerings (IPOs) that trade in an order-driven market system with pure limit order books where no market makers or price support is allowed. We find large trades and quoted depths dominate the first day of trading, but this pattern quickly reverses as small trades and quoted depths are more prevalent on subsequent trading days. Quoted depths are positively related to the number of shares offered in the IPO and trade size, but are negatively related to underpricing. Trade size and transaction immediacy are positively related, and large and positive (negative) order imbalance is associated with more aggressive buys (sells). Finally, long-run performance is not related to initial order imbalance. Overall, our results suggest that despite underwriters not participating in the IPO aftermarket, liquidity provision evolves very quickly and price discovery is immediately reflected in prices.
    Financial Review 07/2011; 46(3):459 - 483. DOI:10.1111/j.1540-6288.2011.00308.x
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    • "Order placement strategies of investors in small and mid cap stocks as compared to large cap stocks are likely to take into account two significant differences in their respective trading environments. First, sophisticated investors, such as hedge funds, have incentives to expend more effort in monitoring large cap stocks as compared to mid and small cap stocks (Aitken et al. 2007a). Thus, the "picking-off" risk is exacerbated for large stocks as compared to mid and small cap stocks. "
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    ABSTRACT: This paper investigates the determinants of the order aggressiveness of institutional and individual investors on the Australian Stock Exchange. Utilizing a proprietary data set that identifies institutional and individual order submissions, we document that the institutional and individual investors become more aggressive when the same-side (opposite-side) market depth increases (decreases). When the spread widens, both individual and institutional investors tend to become less aggressive. Institutional investors are more aggressive in the opening hour of the trading day, while individual investors are less aggressive initially and increase their order aggressiveness during the rest of the trading day.
    Pacific-Basin Finance Journal 11/2009; 17(5):533-546. DOI:10.1016/j.pacfin.2009.05.001 · 0.55 Impact Factor
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    • "Ranaldo (2004) explores data from the Swiss stock exchange and relates the aggressiveness of order placement to the current state of the limit order book whereas Hollifield et al. (2004) relate order aggressiveness to the trader's underlying asset valuation. Other empirical studies of limit order markets have explored related issues regarding execution quality (Lo et al. (2002)), the use and role of hidden orders (Bessembinder et al. (2008)), and the different strategies of various institutional investors (Aitken et al. (2007)). "
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    ABSTRACT: This paper examines how order submissions to the electronic limit order book for Eurodollar futures were affected when financial market turmoil generated a dramatic rise in interest rate uncertainty on August 9, 2007. We show that overall depth declined and that the shape of the order book moved away from best prices. We empirically model the decision to add or subtract depth to the order book and demonstrate that prior to August 9, both order placements and order cancellations tended to rapidly restore symmetry to the electronic limit order book. Following August 9, the relationship between the size and shape of the limit order book and incoming orders became muted. We hypothesize that increased uncertainty may have reduced the aggressiveness of high-frequency, algorithmic traders in this market.
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