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Broker Routing Decisions in Limit Order Markets

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  • David A. Cimon

Abstract

The primary focus of this paper is to study conflict of interest in the brokerage market. Brokers face a conflict of interest when the commissions they receive from investors differ from the costs imposed by different trading venues. I construct a model of limit order trading in which brokers serve as agents for investors who wish to access equity markets. I find that brokers preferentially route marketable orders to venues with lower liquidity demand fees, driving up the execution probability at these venues and lowering adverse selection costs. When fees for liquidity supply and demand are sufficiently different, brokers route liquidity supplying orders to separate venues, where investors suffer from lower execution probability and higher costs of adverse selection.

Suggested Citation

  • David A. Cimon, 2016. "Broker Routing Decisions in Limit Order Markets," Staff Working Papers 16-50, Bank of Canada.
    • Handle: RePEc:bca:bocawp:16-50
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    References listed on IDEAS

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    Cited by:

    1. Bastidon, Cécile & Jawadi, Fredj, 2024. "Trade fragmentation and volatility-of-volatility networks," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 91(C).
    2. Brolley, Michael & Cimon, David A., 2020. "Order-Flow Segmentation, Liquidity, and Price Discovery: The Role of Latency Delays," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 55(8), pages 2555-2587, December.
    3. Anderson, Lisa & Andrews, Emad & Devani, Baiju & Mueller, Michael & Walton, Adrian, 2022. "Speed segmentation on exchanges: Competition for slow flow," Journal of Financial Markets, Elsevier, vol. 58(C).
    4. Degryse, Hans & Karagiannis, Nikolaos, 2019. "Priority Rules," CEPR Discussion Papers 14127, C.E.P.R. Discussion Papers.
    5. Alfred Lehar & Christine Parlour & Marius Zoican, 2023. "Fragmentation and optimal liquidity supply on decentralized exchanges," Papers 2307.13772, arXiv.org, revised May 2024.
    6. Suchismita Mishra & Le Zhao, 2021. "Order Routing Decisions for a Fragmented Market: A Review," JRFM, MDPI, vol. 14(11), pages 1-32, November.

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    More about this item

    Keywords

    Financial markets; Market structure and pricing;

    JEL classification:

    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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