Skip to main content Accessibility help

Algorithmic Trading and the Market for Liquidity

  • Terrence Hendershott (a1) and Ryan Riordan (a2)

We examine the role of algorithmic traders (ATs) in liquidity supply and demand in the 30 Deutscher Aktien Index stocks on the Deutsche Boerse in Jan. 2008. ATs represent 52% of market order volume and 64% of nonmarketable limit order volume. ATs more actively monitor market liquidity than human traders. ATs consume liquidity when it is cheap (i.e., when the bid-ask quotes are narrow) and supply liquidity when it is expensive. When spreads are narrow ATs are less likely to submit new orders, less likely to cancel their orders, and more likely to initiate trades. ATs react more quickly to events and even more so when spreads are wide.

Hide All
Almgren, R., and Chriss, N.. “Optimal Execution of Portfolio Transactions.” Journal of Risk, 3 (2000), 540.
Barclay, M.; Hendershott, T.; and McCormick, D.. “Competition among Trading Venues: Information and Trading on Electronic Communications Networks.” Journal of Finance, 58 (2003), 26372666.
Bertsimas, D., and Lo, A.. “Optimal Control of Execution Costs.” Journal of Financial Markets, 1 (1998), 150.
Bessembinder, H. “Issues in Assessing Trade Execution Costs.” Journal of Financial Markets, 6 (2003), 233257.
Biais, B.; Foucault, T.; and Moinas, S.. “Equilibrium Algorithmic Trading.” Working Paper, Toulouse University, IDEI (2011).
Biais, B.; Hillion, P.; and Spatt, C.. “An Empirical Analysis of the Limit Order Book and the Order Flow in the Paris Bourse.” Journal of Finance, 50 (1995), 16551690.
Biais, B.; Hombert, J.; and Weill, P.-O.. “Trading and Liquidity with Limited Cognition.” Working Paper, Toulouse University, IDEI (2010).
Biais, B., and Woolley, P.. “High Frequency Trading.” Working Paper, Toulouse University, IDEI (2011).
Brogaard, J.; Hendershott, T.; and Riordan, R.. “High Frequency Trading and Price Discovery.” Working Paper, University of California at Berkeley (2013).
Chaboud, A.; Chiquoine, B.; Hjalmarsson, E.; and Vega, C.. “Rise of the Machines: Algorithmic Trading in the Foreign Exchange Market.” FRB International Finance Discussion Paper No. 980 (2009).
Cohen, K.; Maier, S.; Schwartz, R.; and Whitcomb, D.. “Transaction Costs, Order Placement Strategy and Existence of the Bid-Ask Spread.” Journal of Political Economy, 89 (1981), 287305.
Domowitz, I., and Yegerman, H.. “The Cost of Algorithmic Trading: A First Look at Comparative Performance.” Journal of Trading, 1 (2006), 3342.
Duffie, D. “Asset Price Dynamics with Slow-Moving Capital.” Journal of Finance, 65 (2010), 12381268.
Engle, R.; Russell, J.; and Ferstenberg, R.. “Measuring and Modeling Execution Cost and Risk.” Journal of Portfolio Management, 38 (2012), 1428.
Foucault, T.; Kadan, O.; and Kandel, E.. “Liquidity Cycles and Make/ Take Fees in Electronic Markets.” Journal of Finance, 68 (2013), 299341.
Foucault, T., and Menkveld, A.. “Competition for Order Flow and Smart Order Routing Systems.” Journal of Finance, 63 (2008), 119158.
Foucault, T.; Roëll, A.; and Sandas, P.. “Market Making with Costly Monitoring: An Analysis of the SOES Controversy.” Review of Financial Studies, 16 (2003), 345384.
Friedman, M. “The Case for Flexible Exchange Rates.” In Essays in Positive Economics, Friedman, M., ed. Chicago: University of Chicago Press (1953).
Goettler, R.; Parlour, C.; and Rajan, U.. “Informed Traders and Limit Order Markets.” Journal of Financial Economics, 93 (2009), 6787.
Griffiths, M.; Smith, B.; Turnbull, D.; and White, R.. “The Costs and Determinants of Order Aggressiveness.” Journal of Financial Economics, 56 (2000), 6588.
Harris, L. “Optimal Dynamic Order Submission Strategies in Some Stylized Trading Problems.”Financial Markets, Institutions, and Instruments, 7 (1998), 176.
Hasbrouck, J., and Saar, G.. “Technology and Liquidity Provision: The Blurring of Traditional Definitions.” Journal of Financial Markets, 12 (2009), 143172.
Hasbrouck, J., and Saar, G.. “Low-Latency Trading.” Journal of Financial Markets, 16 (2013), 646679.
Hau, H. “Location Matters: An Examination of Trading Profits.” Journal of Finance, 56 (2001), 19591983.
Hendershott, T.; Jones, C. M.; and Menkveld, A. J.. “Does Algorithmic Trading Improve Liquidity?Journal of Finance, 66 (2011), 133.
Jain, P. “Financial Market Design and the Equity Premium: Electronic versus Floor Trading.” Journal of Finance, 60 (2005), 29552985.
Jovanovic, B., and Menkveld, A.. “Middlemen in Limit-Order Markets.” Working Paper, VU University Amsterdam (2011).
Kawaller, I.; Koch, P.; and Koch, T.. “The Temporal Price Relationship between S&P 500 Futures and the S&P 500 Index.” Journal of Finance, 42 (1987), 13091329.
Keim, D., and Madhavan, A.. “Anatomy of the Trading Process: Empirical Evidence on the Behavior of Institutional Traders.” Journal of Financial Economics, 37 (1995), 371398.
Kirilenko, A.; Kyle, A. S.; Samadi, M.; and Tuzun, T.. “The Flash Crash: The Impact of High Frequency Trading on an Electronic Market.” Working Paper, Massachusetts Institute of Technology (2011).
Lee, C., and Ready, M.. “Inferring Trade Direction from Intraday Data.” Journal of Finance, 46 (1991), 733746.
Lo, A.; MacKinlay, A.; and Zhang, J.. “Econometric Models of Limit-Order Executions.” Journal of Financial Economics, 65 (2002), 3171.
Menkveld, A. “High Frequency Trading and the New Market Makers.” Journal of Financial Markets, 16 (2013), 712740.
Pagnotta, E., and Philippon, T.. “Competing on Speed.” Working Paper, New York University (2011).
Parlour, C. “Price Dynamics in Limit Order Markets.” Review of Financial Studies, 11 (1998), 789816.
Parlour, C., and Seppi, D.. “Limit Order Markets: A Survey.” Handbook of Financial Intermediation and Banking, Boot, A. W. A. and Thakor, A. V., eds. Amsterdam: Elsevier Science (2008).
Petersen, M. “Estimating Standard Errors in Finance Panel Data Sets: Comparing Approaches.”Review of Financial Studies, 22 (2009), 435480.
Ranaldo, A. “Order Aggressiveness in Limit Order Book Markets.” Journal of Financial Markets, 7 (2004), 5374.
Rosu, I. “A Dynamic Model of the Limit Order Book.” Review of Financial Studies, 22 (2009), 46014641.
SEC. Regulations NMS, Release No. 34-51808 (2005).
Thompson, S. “Simple Formulas for Standard Errors That Cluster by Both Firm and Time.” Journal of Financial Economics, 99 (2011), 110.
Venkataraman, K. “Automated versus Floor Trading: An Analysis of Execution Costs on the Paris and New York Exchanges.” Journal of Finance, 56 (2001), 14451485.
Recommend this journal

Email your librarian or administrator to recommend adding this journal to your organisation's collection.

Journal of Financial and Quantitative Analysis
  • ISSN: 0022-1090
  • EISSN: 1756-6916
  • URL: /core/journals/journal-of-financial-and-quantitative-analysis
Please enter your name
Please enter a valid email address
Who would you like to send this to? *


Full text views

Total number of HTML views: 0
Total number of PDF views: 0 *
Loading metrics...

Abstract views

Total abstract views: 0 *
Loading metrics...

* Views captured on Cambridge Core between <date>. This data will be updated every 24 hours.

Usage data cannot currently be displayed