Exploring relationship between 'Exchange Trading Rules and Stock Market Liquidity'

In a recently uploaded paper on SSRN, three scholars reflect their view on the relationship between Exchange Trading Rules and Stock Market Liquidity. In this paper Douglas Cumming and Dan Li of Schulich School of Business (York University, Canada) and Sofia Johan of Tilburg Law and Economics Centre (Netherlands) "examine stock exchange trading rules for market manipulation, insider trading, and broker-agency conflict, across countries and over time, in 42 stock exchanges around the world" to "show that differences in exchange trading rules, over time and across markets, significantly effect liquidity". This is for the reason that "Some stock exchanges have extremely detailed rules that explicitly prohibit specific manipulative practices, but others use less precise and broadly framed rules" and to this regard the authors "new indices for market manipulation, insider trading, and broker-agency conflict based on the specific provisions in the trading rules of each stock exchange".

With the study of various variables, the authors conclude as under;

We employ a sample of 42 exchanges around the world and find that stock exchange trading activity is most closely related to trading rules specificity in regard to insider trading and market manipulation, but is not statistically related to rules pertaining to broker-agency conflict. The reasoning behind this finding is that insider trading and market manipulation rules provide clarity regarding prohibited manipulative trading practices and are of direct and central importance to the conduct of market participants. By contrast, broker-agency conflict rules are typically subject to extraneous rules from governing bodies and professional associations for brokers (such as the Chartered Financial Analysts Institute). The connection between trading activity and insider trading and market manipulation rules is robust to concerns about endogeneity, difference-in-differences specifications, and alternative control variables. Specifically, we observe the material impact of the MiFID rule changes on all dimensions of liquidity. Although it is difficult to isolate precisely the components of trading rules that matter the most, it is noteworthy that we do observe a close connection between the Volume Manipulation Rules Index and trading velocity, the Price Manipulation Rules index and volatility, and the Insider Trading Rules Index and bid-ask spreads. The results indicate trading rules are an important source of information to consider in explaining the differences in trading activity among stock exchanges around the world. Future work might look to the exchange trading rules as a source of international differences in stock exchanges, market efficiency, and market integrity.

The entire paper is available at this SSRN link.