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Trading Fast and Slow: Colocation and Liquidity

Jonathan Brogaard¹; Björn Hagströmer²; LARS L. NORDEN²; Ryan Riordan³

¹ University of Washington · ² Stockholm University · ³ Queen's University

We exploit an optional colocation upgrade at NASDAQ OMX Stockholm to assess how speed affects market liquidity. Liquidity improves for the overall market and even for noncolocated trading entities. We find that the upgrade is pursued mainly by participants who engage in market making. Those that upgrade use their enhanced speed to reduce their exposure to adverse selection and to relax their inventory constraints. In particular, the upgraded trading entities remain competitive at the best bid and offer even when their inventories are in their top decile. Our results suggest that increasing the speed of market-making participants benefits market liquidity.

DOI

10.1093/rfs/hhv045

Volume

28 (12)

Pages

3407-3443

Language

en

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Sources

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