Does tick size change improve liquidity provision? : evidence from the Indonesia stock exchange
Edith Cowan University
Place of Publication
Joondalup, Western Australia
Faculty of Business and Law
School of Accounting, Finance and Economics
The market regulators of the Indonesia stock exchange have made several changes in permissible minimum price variations, from a single tick size (IDR 5) in 2000 to multiple tick sizes (IDR1, 5, 10, 25, 50) in 2007 for the purposes of promoting efficient trading and liquidity improvements. Researchers have demonstrated that finer tick sizes will lower bidask spreads, yet studies which examine the impact of tick size on other key liquidity dimensions such as realized market depth and speed of quote revision are limited. As tick size diminishes so too do the benefits of time precedence rules and encouragement is given to the existence of front-runners, traders are more reluctant to show their orders and more aggressive to consume market orders which leads to a thinner order book. This paper will adopt the V-Net measurement (Engle & Lange, 2001) to assess whether there is a significant difference in net directional volume pre and post tick size changes and to further assess the relationship amongst realized market depths, price durations and spreads. This study employs four major stocks to analyse the impact of tick size on liquidity provision using intraday trading data for six weeks (2 October – 10 November 2009). Two sample stocks experienced an increase of tick size; from IDR 5 to IDR 25 (as their price level is between IDR 2000 and IDR 5000) and the rest had a larger increase of tick size from IDR 5 to IDR 50 (as their price level is higher than IDR 5000). The results are as follows: first, since movement to a larger tick size is a binding constraint for the absolute spread which further restricts price competition in the market, the increase in tick sizes shows a clear pattern of resulting in slower quote adjustments. Second, the absolute value of volume bought and sold before price changes is different between the periods of small and coarse tick size changes for all stocks. Third, although the price duration of all stocks demonstrates an ARCH effect, further tests show that the conditional expected price duration is not a significant independent explanatory variable for V-NET either pre or post tick size changes. Finally, trading intensity improved through small time intervals between trades in the period of coarse tick sizes. Trade duration is influenced by spread during the small tick size period but its relation is somewhat more vague when tick size becomes larger.
Allen, D. & Sudiman, J. (2009). Does tick size change improve liquidity provision? : evidence from the Indonesia stock exchange. Joondalup, Australia: Edith Cowan University.