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Algorithmic quoting, trading, and market quality in agricultural commodity futures markets

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  • Zhepeng Hu
  • Teresa Serra
  • Philip Garcia

Abstract

This paper investigates the effect of algorithmic trading activity, as measured by quoting, on the corn, soybean, and live cattle commodity futures market quality. Using the CME’s limit-order-book data and a heteroscedasticity-based identification approach, we find more intensive algorithmic quoting (AQ) is beneficial to multiple dimensions of market quality. AQ improves pricing efficiency and mitigates short-term volatility, but its effects on liquidity costs are somewhat mixed. Increased AQ significantly narrows effective spreads in the corn and soybean markets, but not in the less traded live cattle futures market. The narrowing in effective spreads emerges from a reduction in adverse selection costs as more informed traders lose their market advantage. There also is evidence that liquidity provider revenues increase with heightened AQ activity in the corn futures market, albeit the effect is not statistically significant in the soybean and live cattle futures markets. The increased revenue points to a tradeoff between the dimensions of market quality, and the need for continued assessment and monitoring of algorithmic trading activity.

Suggested Citation

  • Zhepeng Hu & Teresa Serra & Philip Garcia, 2020. "Algorithmic quoting, trading, and market quality in agricultural commodity futures markets," Applied Economics, Taylor & Francis Journals, vol. 52(58), pages 6277-6291, December.
    • Handle: RePEc:taf:applec:v:52:y:2020:i:58:p:6277-6291
    DOI: 10.1080/00036846.2020.1789060
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    Cited by:

    1. Li, Miao & Xiong, Tao, 2023. "Is China's new live hog futures market efficient? Evidence from an analysis of market quality, price discovery and hedging effectiveness," Australian Journal of Agricultural and Resource Economics, Australian Agricultural and Resource Economics Society, vol. 68(01), September.
    2. Kun Peng & Zhepeng Hu & Michel A. Robe, 2024. "Maximum order size and market quality: Evidence from a natural experiment in commodity futures markets," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 44(5), pages 803-825, May.
    3. Xiong, Tao & Li, Miao, 2024. "Does market quality benefit from internationalization? Evidence from Chinese commodity futures markets," Research in International Business and Finance, Elsevier, vol. 70(PA).
    4. Peng, Kun & Hu, Zhepeng & Robe, Michel A., 2020. "Maximum Order Size and Agricultural Futures Market Quality: Evidence from a Natural Experiment," 2020 Annual Meeting, July 26-28, Kansas City, Missouri 304596, Agricultural and Applied Economics Association.

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