An Empirical Investigation of ECNS and the Dealer Market: Order Imbalances and Spread Patterns

After adopting Order Handling Rules in 1997, the Nasdaq Stock Market has become a hybrid market with both the quote-driven (market makers, the dealer market) and the order-driven (the Electronic Communication Networks, ECNs) trading systems. We study the Nasdaq stocks to empirically examine the spread patterns of ECNs and the dealer market under order imbalances. The results show that the spread size is much smaller in ECNs than that in the dealer market. The spread size decreases as the participation rate of ECNs increases. It is also found that the spread size does not fluctuate with the order imbalance conditions in ECNs. However, in the dealer market, the spread size is maximized when orders are balanced and minimized when orders are imbalanced.