Tick Size Reduction and Price Clustering in a FX Order Book

TL;DR

This paper examines how a ten-fold reduction in tick size affects the order book dynamics for EUR/USD and USD/JPY, revealing persistent price clustering mainly driven by manual traders and its impact on market structure.

Contribution

It provides the first detailed analysis of tick size reduction effects on FX order book structure and trader behavior, highlighting the role of manual traders in price clustering.

Findings

Price clustering persists after tick size reduction.

Manual traders tend to set prices at old resolution levels.

Automatic traders exploit price clusters by submitting limit orders ahead.

Abstract

We investigate the statistical properties of the EBS order book for the EUR/USD and USD/JPY currency pairs and the impact of a ten-fold tick size reduction on its dynamics. A large fraction of limit orders are still placed right at or halfway between the old allowed prices. This generates price barriers where the best quotes lie for much of the time, which causes the emergence of distinct peaks in the average shape of the book at round distances. Furthermore, we argue that this clustering is mainly due to manual traders who remained set to the old price resolution. Automatic traders easily take price priority by submitting limit orders one tick ahead of clusters, as shown by the prominence of buy (sell) limit orders posted with rightmost digit one (nine).