Strategic Order Splitting in Automated Markets

Abstract

We identify and characterize order splitting strategies in an automated limit order market. We model the market conditions and order characteristics, which lead to the use of order splitting strategies. We find a positive correlation between price aggressiveness and the propensity to split an order, which implies, in a utility maximization framework, that traders trade-off one type of aggressiveness for another. We are able to identify two types of traders that use order splitting strategies for different purposes: the reduction of execution costs through split market orders, and voluntary supply of liquidity through split limit orders. The interpretation that split limit orders are submitted by voluntary market makers is consistent with the findings in the experimental study Bloomfield, O’Hara, and Saar (2005).

Keywords: Microstructure, Order execution strategy, Split order, Voluntary market maker

JEL Classification: G10, G14, G15, C35