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Tick Size and Institutional Trading Costs: Evidence from Mutual Funds

Published online by Cambridge University Press:  06 April 2009

Nicolas P. B. Bollen  and
Jeffrey A. Busse
Nicolas P. B. Bollen
Affiliation:
[email protected], Owen Graduate School of Management, Vanderbilt University, 401 21st Ave S, Nashville, TN 37240
Jeffrey A. Busse
Affiliation:
jeff [email protected], Goizueta Business School, Emory University, 1300 Clifton Rd, Atlanta, GA 30322.
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Abstract

This paper measures changes in mutual fund trading costs following two reductions in the tick size of U.S. equity markets: the switch from eighths to sixteenths and the subsequent switch to decimals. We estimate trading costs by comparing a mutual fund's daily returns to the daily returns of a synthetic benchmark portfolio that matches the fund's holdings but has zero trading costs by construction. We find that the average change in trading costs of actively managed funds was positive following both reductions in tick size with a larger and statistically significant increase following decimalization. In contrast, index fund trading costs were unaffected.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 41 , Issue 4 , December 2006 , pp. 915 - 937
Copyright
Copyright © School of Business Administration, University of Washington 2006

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