The effect of decimalization on the components of the bid-ask spread

Gibson, Scott; Singh, Rajdeep; Yerramilli, Vijay

doi:10.1016/s1042-9573(03)00017-2

Cited by 52 publications

(48 citation statements)

References 26 publications

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“…The following provides a brief description of the models, and the details are described in McInish and Van Ness (2002) and Gibson et al (2003). (Note 1) George, Kaul, and Nimalendran (1991) GKN demonstrated that the difference between transaction returns and quote midpoint returns can be used to filter out the serial dependence in returns.…”

Section: Decomposition Of the Bid-ask Spreadsmentioning

confidence: 99%

“…After reducing tick size, the average per share proportion of the asymmetric information component to the traded spread significantly increased from 17.856% to 21.453%, 9.505% to 11.578%, and 12.348% to 14.643% for GKN, HS, and MRR, respectively. As typical examples of developed markets, Gibson et al (2003) reported 59.04% asymmetric information in the NYSE and Ahn et al (2007) documented 43.21% in the TSE after tick size was reduced. The present empirical evidence indicated that a relatively large order-processing component remained for liquidity provision in the TWSE limit order book.…”

Section: Introductionmentioning

confidence: 96%

“…Stoll (1978) defined order-processing costs as the charge that dealers must implement to compensate for the fixed costs of liquidity provision. Gibson, Singh, and Yerramilli (2003) considered order-processing costs as the sum of fixed costs combined with residual variable costs, such as economic rent earned by market makers using market power. The asymmetric information component of bid-ask spreads is the compensation for dealers who typically generate trading losses when confronting informed traders.…”

Section: Introductionmentioning

confidence: 99%

“…Kyle (1985) and Glosten and Milgrom (1985) have demonstrated that information asymmetry can be measured according to the relative ratio of informed traders to noise traders, and that wide spreads accurately reflect the transaction risk of market makers in a relatively disadvantaged position when facing informed traders. Gibson et al (2003) similarly postulated that adverse-selection costs generate a positive association with the degree of information asymmetry. Huang and Stoll (1997) reported that competition among multiple dealers can mitigate market asymmetry and reduce the adverse-selection component.…”

Section: Introductionmentioning

confidence: 99%

“…Anshuman and Kalay (1998) observed that liquidity providers can obtain abnormal profits from order-handling processes and that cost saving achieved because of the reduced tick size was largely attributable to reduced economic rents previously captured by liquidity provision before decimal pricing. Gibson et al (2003) discovered that in fractional pricing regime, market makers maintained spreads that were artificially too high and earned the extra rent component. The substantial decrease in order-processing costs observed after the decimal tick-size regime was implemented caused market competition to intensify among dealers and limit order book traders and weakened the ability of market makers to obtain additional profits.…”

Section: Introductionmentioning

confidence: 99%

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Tick Size Reduction and the Components of the Bid-Ask Spread on the Taiwan Stock Exchange

Kuo¹

2016

IJFR

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We examined the effect of reduced tick size on spread and its various components on Taiwan Stock Exchange (TWSE). The TWSE stands for a representative order-driving call mechanism in the emerging market. The noticeable market features of the TWSE render our findings on the effect of tick-size changes useful in combination with those reported in studies on developed markets. Our evidence strongly indicated that the traded spread and the order-processing component declined after tick size was reduced, whereas the asymmetric information component exhibited less significant changes. We documented a relatively high proportion of the order-processing component of the TWSE compared with that observed in developed markets after tick size was reduced. The cross-sectional regression analysis results indicated that stocks with high binding constraints, a high price, and high trading activity generated substantial savings on the order-processing component after tick-size conversion. Our empirical results highlight the important contributions of reduced tick size on market efficiency specifically in an emerging call market setting.

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Section: Decomposition Of the Bid-ask Spreadsmentioning

confidence: 99%

Section: Introductionmentioning

confidence: 96%

Section: Introductionmentioning

confidence: 99%

Section: Introductionmentioning

confidence: 99%

Section: Introductionmentioning

confidence: 99%

See 3 more Smart Citations

Tick Size Reduction and the Components of the Bid-Ask Spread on the Taiwan Stock Exchange

Kuo¹

2016

IJFR

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Adverse Selection

Parlour¹,

Rajan²

2010

Encyclopedia of Quantitative Finance

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Adverse selection arises when a trader has private information related to the value of an asset. Strategic behavior by the informed trader reduces the payoff of an uninformed counterparty. In quote‐driven markets, adverse selection directly leads to a spread between bid and ask prices for the asset. In limit order markets, a limit order is subject to adverse selection, since the value of the asset may change before a market order comes in. Market orders from uninformed traders also face adverse selection, since limit orders may themselves have been submitted by informed traders.

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Decimalization, trading costs, and information transmission between ETFs and index futures

Chou

Chung

2005

Journal of Futures Markets

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The impact of changes in trading costs, due to decimalization, on informed trading and speed of information transmission between exchange-traded funds (ETFs) and their corresponding index futures is examined. ETFs began to trade in decimals on January 29, 2001, and index futures continued to trade in their original tick sizes. The focus is on whether the decrease in the minimum tick size of ETFs influences the relative performances of these two types of index instruments in the pricediscovery process. It is found that for ETFs, the trading activity increases, but the market depth drops significantly after decimalization. The spreads for ETFs generally decrease, but the adverse selection component of ETF spreads increases. Furthermore, after decimalization, ETFs start to lead index futures in the price-discovery process and its share of information also increases. Although index futures still assume a dominant role in information discovery, the information content of the ETFs' prices improves significantly after decimalization.

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The effect of decimalization on the components of the bid-ask spread

Cited by 52 publications

References 26 publications

Tick Size Reduction and the Components of the Bid-Ask Spread on the Taiwan Stock Exchange

Tick Size Reduction and the Components of the Bid-Ask Spread on the Taiwan Stock Exchange

Adverse Selection

Decimalization, trading costs, and information transmission between ETFs and index futures

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