The Journal of Finance Forthcoming Article Abstract
Algorithmic trading has sharply increased over the past decade. Does it improve market quality, and should it be encouraged? We provide the first analysis of this question. The NYSE automated quote dissemination in 2003, and we use this change in market structure that increases algorithmic trading as an exoge- nous instrument to measure the causal effect of algorithmic trading on liquidity. For large stocks in particular, algorithmic trading narrows spreads, reduces ad- verse selection, and reduces trade-related price discovery. The findings indicate that algorithmic trading improves liquidity and enhances the informativeness of quotes.