We study the impact on market liquidity of the introduction of a penalty for high order-to-trade ratios (OTRs), implemented by the Italian Stock Exchange to curtail high-frequency quote submission. We find that the fee is associated with a collapse in the quoted depth of the stocks that make up the bulk of trading in Italian equities and with an increase in price impacts of trading across the treated stocks. Spreads do not change, however. Stocks from a pan-European control sample show no such liquidity changes. Thus, the Italian OTR fee had the effect of making Italian stocks markets more shallow and less resilient. Large stocks are more severely affected than midcaps. We also find evidence of a limited decrease in turnover. Consolidated liquidity, constructed by aggregating across all electronic trading venues for these stocks, decreases just like that on the main exchange. Thus, liquidity was not simply diverted from the main exchange, it was reduced in aggregate.

Alvaro Almeida, Charles Goodhart, Richard Payne, The Effects of Macroeconomic News on High Frequency Exchange Rate Behavior, The Journal of Financial and Quantitative Analysis, Vol. 33, No. 3 (Sep., 1998), pp. 383-408

We study the effects that the ban on short sales of shares in financial firms introduced in late 2008 and removed early 2009 had on the microstructure and the quality of UK equity markets. We show that the ban did nothing to affect order flows: financial stocks were being more aggressively sold off than their peers pre-ban and this situation persisted through the ban period. Trading volume in financials was massively reduced, however. The ban decimated order book liquidity for financials. The deterioration was symmetric, affecting the limit buy and limit sell side of the order book equally. Finally we show that, through the period of the ban, markets for financial stocks were substantially less efficient and that the role of the trading process in aiding price discovery was greatly reduced. The effects identified above were largely reversed once the ban was lifted. The persistence of the deterioration in market quality and liquidity though the relatively long-lasting UK ban on short selling suggests that other major market developments such as the TARP program were not responsible since these were concentrated in the early half of the ban. We thus argue that the short selling ban was responsible for detrimental effects on the quality of UK equity markets and that, far from being stabilising, the ban exacerbated problems in valuing UK financial stocks.

Higher moments of long-horizon returns are important for asset pricing but are hard to measure accurately using standard techniques. We provide theory showing that short-horizon (e.g., daily) returns can be used to construct precise estimates of long-horizon (e.g., annual) moments without making strong assumptions about the data-generating process. Skewness comprises two components: skewness of short-horizon returns and a leverage effect, that is, covariance between variance and lagged returns. We provide similar results for kurtosis. An application to U.S. stock index returns shows that skew is large and negative and attenuates only slowly as one moves from monthly to multiyear horizons.