Phantom Liquidity and High Frequency Quoting

This paper examines every NASDAQ ITCH feed message for the S&P 500 stocks for 2012 and identifies clusters of extremely high and extremely low limit order cancellation activity. We find results consistent with the ideas that cancel clusters are the result of high frequency traders jockeying for queue position and reacting to information to establish a new price level. Furthermore, few trades seem to be executed during cancel clusters or even immediately after them. Low cancellation activity seems to be markedly different with many level changes all be caused by executions. Our results are consistent with high frequency trading firms behaving as agents who bring efficiency to the market without the need to have executions at intermediate prices. We also discuss the misconception that investors and low frequency trader are synonymous and its implications for policy given our results.