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Information Technology and Screen-Based Securities Trading: Pricing the Stock and Pricing the Trade

Author

Listed:
  • Eric K. Clemons

    (The Wharton School, University of Pennsylvania, 1315 Steinberg Hall-Dietrich Hall, Philadelphia, Pennsylvania 19104)

  • Bruce W. Weber

    (Stern School of Management, New York University, New York, New York 10012)

Abstract

Many major stock exchanges rely on their member firms to act as dealer intermediaries, risking their own capital to trade as dealers with investor customers. A confluence of forces will dramatically alter the role of these intermediaries and the strategies available to them. Information technology is increasing the diversity of trading strategies used by investors; these impose different costs and risks upon intermediaries. Alternative electronic trading venues---off-exchange trading systems---are increasing the competition faced by established exchanges, and have been especially effective in targeting investors who impose low risks upon intermediaries. Finally, many of the automated systems developed by existing exchanges have stripped of many of the cues that have in the past been used by intermediaries to assess the riskiness of an investor's trade and to price accordingly. We believe that competitive pressure from alternative trading venues will drive exchanges to develop mechanisms to support risk-based pricing. We explore, through a stylized model of trading, how the use of risk-based pricing can preserve the established central market. This enables intermediaries to separate pricing the shares traded from pricing the services for dealing these shares, and provides low-cost execution while preserving the benefits of intermediation. Our model uses a detailed computer simulation, in which dealers interact with order flow to produce a sequence of trades, which determine market prices, which in turn influence order flow; the model enables us to calculate trading costs for different classes of investor, various other standard measures of market quality, and market maker profitability.

Suggested Citation

  • Eric K. Clemons & Bruce W. Weber, 1997. "Information Technology and Screen-Based Securities Trading: Pricing the Stock and Pricing the Trade," Management Science, INFORMS, vol. 43(12), pages 1693-1708, December.
    • Handle: RePEc:inm:ormnsc:v:43:y:1997:i:12:p:1693-1708
    DOI: 10.1287/mnsc.43.12.1693
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    Citations

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    Cited by:

    1. Mark Nissen, 2000. "Agent‐based supply chain disintermediation versus re‐intermediation: economic and technological perspectives," Intelligent Systems in Accounting, Finance and Management, John Wiley & Sons, Ltd., vol. 9(4), pages 237-256, December.
    2. James R. Marsden & Y. Alex Tung, 1999. "The Use of Information System Technology to Develop Tests on Insider Trading and Asymmetric Information," Management Science, INFORMS, vol. 45(8), pages 1025-1040, August.
    3. Eric Overby & Sandy Jap, 2009. "Electronic and Physical Market Channels: A Multiyear Investigation in a Market for Products of Uncertain Quality," Management Science, INFORMS, vol. 55(6), pages 940-957, June.
    4. Yannis Bakos & Henry C. Lucas & Wonseok Oh & Gary Simon & Siva Viswanathan & Bruce W. Weber, 2005. "The Impact of E-Commerce on Competition in the Retail Brokerage Industry," Information Systems Research, INFORMS, vol. 16(4), pages 352-371, December.
    5. Yannis Bakos & Erik Brynjolfsson, 1999. "Bundling Information Goods: Pricing, Profits, and Efficiency," Management Science, INFORMS, vol. 45(12), pages 1613-1630, December.
    6. Ji-Yong Seo & Sangmi Chai, 2013. "The role of algorithmic trading systems on stock market efficiency," Information Systems Frontiers, Springer, vol. 15(5), pages 873-888, November.
    7. Rajiv D. Banker & Robert J. Kauffman, 2004. "50th Anniversary Article: The Evolution of Research on Information Systems: A Fiftieth-Year Survey of the Literature in Management Science," Management Science, INFORMS, vol. 50(3), pages 281-298, March.
    8. Eric Clemons & Lorin Hitt & Bin Gu & Matt Thatcher & Bruce Weber, 2002. "Impacts of e-Commerce and Enhanced Information Endowments on Financial Services: A Quantitative Analysis of Transparency, Differential Pricing, and Disintermediation," Journal of Financial Services Research, Springer;Western Finance Association, vol. 22(1), pages 73-90, August.
    9. Kasing Man & Junbo Wang & Chunchi Wu, 2013. "Price Discovery in the U.S. Treasury Market: Automation vs. Intermediation," Management Science, INFORMS, vol. 59(3), pages 695-714, September.
    10. Arthur M. Geoffrion & Ramayya Krishnan, 2001. "Prospects for Operations Research in the E-Business Era," Interfaces, INFORMS, vol. 31(2), pages 6-36, April.

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