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Bridge over ocean
2 September 2015 Multimedia

Market Liquidity, HFT, and the Adverse Selection Problem (Video)

  1. Sviatoslav Rosov, PhD, CFA

CFA Institute has released a report, Liquidity in Equity Markets: Characteristics, Dynamics, and Implications for Market Quality, which was motivated by two common practitioner complaints about modern equity markets.

CFA Institute has released a report, "Liquidity in Equity Markets: Characteristics, Dynamics, and Implications for Market Quality," which was motivated by common practitioner complaints about modern equity markets. The perception is that modern market structure has created a set of incentives that disadvantage investors and traditional market participants, such as market makers. Specifically, so-called broker/dealer internalizers purchase retail order flow from brokerages (e.g., your stock purchase made through TD Ameritrade) and fill the orders against their own principal. Only “informed” orders (i.e., those not profitable to trade against) are routed to exchanges, causing so-called “adverse selection” risk.

To understand the effects of these concerns on market quality, we studied the dynamics and characteristics of liquidity across equity markets in the United States, the United Kingdom, and France between 2010 and 2014. CFA Institute policy analyst Sviatoslav Rosov, PhD, CFA, discusses the key study findings in the following clips.

Market Liquidity, HFT, and the Adverse Selection Problem - Clip 1
Why are institutional investors more worried about #HFT than retail investors?
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      Market Liquidity, HFT, and the Adverse Selection Problem - Clip 2
      A hollowed-out market can reduce its resilience and lead to more Black Mondays. So far, attempts to fix the flow, such as special order types and trade-at rules, haven’t worked.
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          Market Liquidity, HFT, and the Adverse Selection Problem - Clip 3
          A reduced diversity of liquidity provision is one negative side-effect of HFT that we need to correct in the existing market structure.
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              Market Liquidity, HFT, and the Adverse Selection Problem - Clip 4
              Why are electronic price improvement rule results different in the US than in the UK or France?
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                  Market Liquidity, HFT, and the Adverse Selection Problem - Clip 5
                  Our report reinforces market structure in achieving best execution.
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