Competition among high-frequency traders and market quality

Abstract

I study how competition among high-frequency traders (HFTs) affects their trading behavior and market quality. The analysis exploits a unique dataset, which allows comparing environments with and without high-frequency competition, and contains an event - a tick size reform - which I use to separate the effects of high-frequency trading competition from the effects of the rising share of high-frequency trading in the market. I find that when HFTs compete in a stock, their speculative trading increases. Furthermore, market quality in that stock deteriorates. My findings hold for a variety of market quality and high-frequency trading behavior measures.