Making Cents of Tick Sizes

Using limit order data provided by the NASDAQ and the recent SEC tick size pilot program, we examine how an increase in the minimum price variation affects market liquidity in small-cap securities. While both quoted spreads and depth increase with a change in the mandated tick size from one-cent to five-cents, cumulative depth and trading volume significantly decline. However, we find that the cost to trade relatively large quantities declines with an increase in the minimum tick size and the profitability of liquidity supplying trades increases. Our results suggest that traders submitting large orders are better off, while traders submitting small orders are unaffected by an increase in tick size.