Rethinking Decimalization: The Impact of Increased Tick Sizes on Trading Activity, Volatility, and Price Clustering

Abstract

In this study, we examine the trading activity and volatility of stocks influenced by the U.S. Securities and Exchange Commission’s pilot program that increases tick sizes for various samples of stocks. The objective of the program is to improve the market quality of small-cap stocks, which have historically been relatively less liquid than other stocks. Using a difference-in-differences approach, we find that, relative to control stocks, the trading activity of pilot stocks does not appear to be meaningfully affected by the increase in tick sizes. Volatility, however, increases markedly for the pilot stocks compared to non-pilot stocks. These results are robust to the three different sets of pilot stocks, various rollout periods, and different control groups. We also find that pilot stocks tend to cluster on round increments of $0.05 more frequently than non-pilot stocks after the rollout periods. This is true particularly for pilot stocks that quote on $0.05 but trade on $0.01. To the extent that prices convey important information to market participants, these latter results suggest that the discreteness in prices imposed by the pilot program may adversely affect the informativeness of prices in equity markets.