Competition on the London Stock Exchange

This paper investigates the determinants of the level of competition on the order–driven market organised by the London Stock Exchange. In contrast to previous empirical market microstructure studies, we treat the level of competition as an endogenous variable. The statistical nature of the measures of competitive activity used in this paper necessitate use of a count regression model. Using a sample 50 stocks, we find that users of the system tend to follow the lead of other users (termed the ‘herding effect’) and that competition is greater during the period when the US exchanges are open (termed the ‘US effect’). In addition, the level of competition is positively related to the bid–ask spread pertaining to a particular stock (termed the ‘spread effect’). The latter result is most likely due to traders following a strategy where trade immediacy is traded off against price advantage. Finally, we find that the magnitude of the herding effect, the spread effect, and the fit of the count regression models (termed the ‘fit effect’) vary in a predictable manner across the liquidity of stocks.