4 ms·

Also an industry practitioner, with an auction theory/mechanism design background. I agree with portions of what you said, but: > queues are over sized with li

by lpage 6y ago

Also an industry practitioner, with an auction theory/mechanism design background. I agree with portions of what you said, but: > queues are over sized with liquidity when the tick size is larger, creating more adverse selection for market makers That's not right when it comes to price-time priority (pro rata is a different story). Consider that statement in limit; if the queue was of infinite length, there would be no trade-through, and no adverse selection. I'm talking about the price level penetration/second price dynamics that are relevant to a tick size conversation, not the more nuanced FV/winners curse stuff. To your subsequent point about bid-ask bounce, that's precisely why being towards the front of the queue on a deep bid and ask is valuable. > Market makers have an incentive to do this when the tick size is large in order to preserve time priority. > I have run market making algorithms in both small and large tick stocks and found both categories to be equally difficult.I have run market making algorithms in both small and large tick stocks and found both categories to be equally difficult. There's an efficient frontier parameterized (to first order) by the probability of a round trip (spread width or otherwise), the payout upon success, the loss upon failure, and the number of RT opportunities per trading day. As you noted there's not an easy way or a hard way given that these considerations are not orthogonal, and they're correlated with tick size. I haven't seen this mentioned yet, so I'll mention it explicitly. As it stands the 611-612 series rules pertaining to sub-penny pricing allow for average price executions; a large percentage of U.S. equities volume already trades at mid or within the spread, both principally and on venue. There are far bigger fish to fry in the market structure debate.

dcolkitt 6y ago
> As it stands the 611-612 series rules pertaining to sub-penny pricing allow for average price executions; a large percentage of U.S. equities volume already trades at mid or within the spread, both principally and on venue. True, but only lit decimal penny prices are protected by NBBO. Particularly when it comes to retail flow, that gives internalization pools a license to charge high prices by only having to match penny ticks. If sub-penny was protected by NMS, then lit exchange quotes could narrow the NBBO spread, forcing the internalization pools to give retail traders much better pricing. Also in general, I suspect price discovery is much less efficient when it occurs outside of lit quotes. If not just because, there’s no transparency on book pressure. But I’m definitely less confident about that assertion, and haven’t seen it quantified in any way.
stagehn 6y ago
> Consider that statement in limit; if the queue was of infinite length, there would be no trade-through, and no adverse selection. E[PnL | is_filled_very_soon] and P(is_filled_very_soon) both decline monotonically in queue size assuming we remain at the back of the queue. E[PnL | is_filled_very_soon] starts off negative and gets more negative monotonically. P(is_filled_very_soon) starts high and asymptotes to 0 (but never reaches it assuming queue size remains finite). I will elaborate on the mechanisms behind queues being over-sized in large tick names: - I have estimation error in my theoretical fair value combined with an opportunity cost of pulling my order, so even if I think my order is negative EV I want to leave it in the queue unless that negative EV exceeds the opportunity cost. In small tick names I don't care about this estimation error because there's little to no opportunity cost of pulling an order, so I am much quicker to remove liquidity which incentives a sparse book. - Even if I get filled in a large tick name there's often resting size behind me that lets me scratch out, especially if in the market I'm trading I get the ack before the print shows in the public market data (in this case I am only competing with firms that have canary orders and I'm not sure how common that is outside futures arb). I personally see the biggest problem of large ticks being that it gives an advantage to prop firms that can pre-queue multiple levels in advance especially with GTC orders which gives them an advantage. I see the biggest problem of small ticks being that prop firms can dime genuine liquidity which is a form of front-running, again giving them a big advantage. Not sure exactly how this will net off in terms of rents collected. > a large percentage of U.S. equities volume already trades at mid or within the spread, both principally and on venue. There are far bigger fish to fry in the market structure debate. Agreed. Either way it's not very consequential. I'm 100% in favour of leaving it as-is in US equities though. I'm looking at the orderbooks now of cheap stocks with 50 bps tick sizes and the spreads are multi-ticks wide, so reducing that would achieve nothing except added complexity.

by lpage 6y ago

dcolkitt 6y ago

> As it stands the 611-612 series rules pertaining to sub-penny pricing allow for average price executions; a large percentage of U.S. equities volume already trades at mid or within the spread, both principally and on venue. True, but only lit decimal penny prices are protected by NBBO. Particularly when it comes to retail flow, that gives internalization pools a license to charge high prices by only having to match penny ticks. If sub-penny was protected by NMS, then lit exchange quotes could narrow the NBBO spread, forcing the internalization pools to give retail traders much better pricing. Also in general, I suspect price discovery is much less efficient when it occurs outside of lit quotes. If not just because, there’s no transparency on book pressure. But I’m definitely less confident about that assertion, and haven’t seen it quantified in any way.

stagehn 6y ago

> Consider that statement in limit; if the queue was of infinite length, there would be no trade-through, and no adverse selection. E[PnL | is_filled_very_soon] and P(is_filled_very_soon) both decline monotonically in queue size assuming we remain at the back of the queue. E[PnL | is_filled_very_soon] starts off negative and gets more negative monotonically. P(is_filled_very_soon) starts high and asymptotes to 0 (but never reaches it assuming queue size remains finite). I will elaborate on the mechanisms behind queues being over-sized in large tick names: - I have estimation error in my theoretical fair value combined with an opportunity cost of pulling my order, so even if I think my order is negative EV I want to leave it in the queue unless that negative EV exceeds the opportunity cost. In small tick names I don't care about this estimation error because there's little to no opportunity cost of pulling an order, so I am much quicker to remove liquidity which incentives a sparse book. - Even if I get filled in a large tick name there's often resting size behind me that lets me scratch out, especially if in the market I'm trading I get the ack before the print shows in the public market data (in this case I am only competing with firms that have canary orders and I'm not sure how common that is outside futures arb). I personally see the biggest problem of large ticks being that it gives an advantage to prop firms that can pre-queue multiple levels in advance especially with GTC orders which gives them an advantage. I see the biggest problem of small ticks being that prop firms can dime genuine liquidity which is a form of front-running, again giving them a big advantage. Not sure exactly how this will net off in terms of rents collected. > a large percentage of U.S. equities volume already trades at mid or within the spread, both principally and on venue. There are far bigger fish to fry in the market structure debate. Agreed. Either way it's not very consequential. I'm 100% in favour of leaving it as-is in US equities though. I'm looking at the orderbooks now of cheap stocks with 50 bps tick sizes and the spreads are multi-ticks wide, so reducing that would achieve nothing except added complexity.