How to predict the consequences of a tick value change? Evidence from the Tokyo Stock Exchange pilot program

TL;DR

This paper demonstrates how a specific methodology can accurately predict the microstructural effects of tick value changes, using the Tokyo Stock Exchange pilot program as a case study.

Contribution

It applies a novel ex ante assessment approach to predict market microstructure impacts of tick value modifications.

Findings

Predictions of order costs post-tick change are highly accurate.

The methodology identifies optimal tick values for different assets.

Stocks are classified based on the relevance of their tick value before and after changes.

Abstract

The tick value is a crucial component of market design and is often considered the most suitable tool to mitigate the effects of high frequency trading. The goal of this paper is to demonstrate that the approach introduced in Dayri and Rosenbaum (2015) allows for an ex ante assessment of the consequences of a tick value change on the microstructure of an asset. To that purpose, we analyze the pilot program on tick value modifications started in 2014 by the Tokyo Stock Exchange in light of this methodology. We focus on forecasting the future cost of market and limit orders after a tick value change and show that our predictions are very accurate. Furthermore, for each asset involved in the pilot program, we are able to define (ex ante) an optimal tick value. This enables us to classify the stocks according to the relevance of their tick value, before and after its modification.