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Institutional Liquidity Demand and the Internalization of Retail Order Flow : The Tail Does Not Wag the Dog

Author

Listed:
  • Barardehi, Yashar H.

    (Argyros School of Business & Economics, Chapman University and the U.S. Securities and Exchange Commission)

  • Bernhardt, Dan

    (Department of Economics at the University of Illinois and the University of Warwick)

  • Da, Zhi

    (Mendoza College of Business, University of Notre Dame)

  • Mitch Warachka, Mitch

    (Argyros School of Business & Economics, Chapman University)

Abstract

The decision of wholesalers to internalize retail order flow primarily reflects institutional liquidity demand. We first use the Tick Size Pilot to highlight this decision’s influence on the retail trade imbalances denoted Mroib by Boehmer et al. (2021). We then show that wholesalers internalize more retail order flow when institutional demand is higher, leading Mroib to be inversely related to institutional order flow. Intraday returns move in the same direction as institutional price pressure but the opposite direction of Mroib. Moreover, |Mroib| is highest when institutional trading costs are highest. Distant future returns display strong ∪-shaped patterns conditional on Mroib, consistent with a permanent liquidity premium driving the positive relation between these returns and the magnitude of |Mroib|.

Suggested Citation

  • Barardehi, Yashar H. & Bernhardt, Dan & Da, Zhi & Mitch Warachka, Mitch, 2022. "Institutional Liquidity Demand and the Internalization of Retail Order Flow : The Tail Does Not Wag the Dog," The Warwick Economics Research Paper Series (TWERPS) 1394, University of Warwick, Department of Economics.
    • Handle: RePEc:wrk:warwec:1394
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    References listed on IDEAS

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    Cited by:

    1. Buti, Sabrina & Rindi, Barbara & Werner, Ingrid M., 2010. "Diving into Dark Pools," Working Paper Series 2010-10, Ohio State University, Charles A. Dice Center for Research in Financial Economics.
    2. Chiou, Calvin J. & Zhou, Xiaozhou & Chan, Chang, 2022. "A taxonomy of individual liquidity provision: Evidence from the Taiwan stock exchange," Finance Research Letters, Elsevier, vol. 50(C).
    3. Sabrina Buti & Barbara Rindi & Ingrid M. Werner, 2022. "Diving into dark pools," Financial Management, Financial Management Association International, vol. 51(4), pages 961-994, December.

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    Keywords

    Retail Trade ; Institutional Trade ; Payment for Order Flow ; Liquidity ; Microstructure;
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