Queuing Uncertainty

In a high-speed trading environment, traders simultaneously react to public information not knowing the sequence in which their orders arrive at the exchange. A theoretical model is developed to capture such queuing uncertainty. Market makers strategically choose the size of their limit orders to compete for a common profit opportunity in liquidity provision. In equilibrium, liquidity overshoots—orders at the end of the queue make expected losses. Once realized, liquidity provision in the bottom of the queue is withdrawn, resulting in “flickering orders”. A boost in the trading speed amplifies the overshoot but the effect on order book dynamics (strategic order submission and cancellation) depends on the source of the speed increase. These predictions echo empirical evidence on and policy concerns over “quote stuffing”, order-to-trade ratios, and minimum quote life. The model points to an optimal level of queuing uncertainty, to which the exchange can steer by carefully randomizing the limit order queues.