Every Cloud Has a Silver Lining: Fast Trading, Microwave Connectivity, and Trading Costs

Abstract

Modern markets are characterized by speed differentials, with some traders being fractions of a second faster than others. Theoretical models suggest that such differentials may have both positive and negative effects on liquidity and gains from trade. We examine these effects by studying a series of exogenous weather episodes that temporarily remove the speed advantages of the fastest traders by disrupting their microwave networks. The disruptions are associated with lower adverse selection and lower trading costs. In additional analysis, we show that the long-term removal of speed differentials results in similar effects and also increases gains from trade.