Tick Size Wars, High Frequency Trading, and Market Quality

We show that competitive stock exchanges undercut other exchanges’ tick sizes to gain market share, and that this tick size competition increases investors’ trading costs. Our empirical analysis is focused on an event in 2009 where three stock exchanges, Chi-X, Turquoise, BATS Europe, reduced their tick sizes for stocks with an Oslo Stock Exchange (OSE) primary listing. We find that the tick size-reducing exchanges captured market shares from the large-tick OSE. Trading costs at the OSE increased while trading costs in the competing exchanges remained unchanged. High frequency trading appears to be the main driver behind the market share and trading cost results. Our findings suggest that unregulated stock markets can produce tick sizes that are excessively small.