The value of the floor

The value of the floor Existing theoretical literature suggests that floor trading has discernable benefits over electronic trading. In particular floor relationships lead to a reduction in asymmetric information and hence lower spreads. The ability of floor brokers to participate in incoming order flow without revealing their supply and demand curves increases total liquidity and dampens liquidity shocks leading to lower volatility. We develop hypotheses and test them on a sample of stocks that switch from floor trading to an electronic system with fairly identical rules and pre-trade transparency. We find strong support for existing theory and our hypotheses. In particular asymmetric information and volatility are significantly higher on the electronic system. This leads to an increase in investor transaction costs which dwarfs the operational cost advantages of the electronic systems. Our results are robust to tests involving samples that control for company specific factors and market wide trends. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Review of Quantitative Finance and Accounting Springer Journals
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Publisher
Springer US
Copyright
Copyright © 2009 by Springer Science+Business Media, LLC
Subject
Finance; Corporate Finance; Accounting/Auditing; Econometrics; Operation Research/Decision Theory
ISSN
0924-865X
eISSN
1573-7179
D.O.I.
10.1007/s11156-009-0152-9
Publisher site
See Article on Publisher Site

Abstract

Existing theoretical literature suggests that floor trading has discernable benefits over electronic trading. In particular floor relationships lead to a reduction in asymmetric information and hence lower spreads. The ability of floor brokers to participate in incoming order flow without revealing their supply and demand curves increases total liquidity and dampens liquidity shocks leading to lower volatility. We develop hypotheses and test them on a sample of stocks that switch from floor trading to an electronic system with fairly identical rules and pre-trade transparency. We find strong support for existing theory and our hypotheses. In particular asymmetric information and volatility are significantly higher on the electronic system. This leads to an increase in investor transaction costs which dwarfs the operational cost advantages of the electronic systems. Our results are robust to tests involving samples that control for company specific factors and market wide trends.

Journal

Review of Quantitative Finance and AccountingSpringer Journals

Published: Nov 27, 2009

References

  • Why do security prices change? A transaction-level analysis of NYSE stocks
    Madhavan, A; Richardson, M; Roomans, M
  • Equilibrium Block trading and asymmetric information
    Seppi, D

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