As stated in the question: When the minimum tick size in the US was decreased, the payments for order flow also decreased.

Why is this the case?

closed as unclear what you're asking by dg99, Michael, Dheer, MD-Tech, Brythan Oct 18 '17 at 13:57

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  • 1
    Please cite your source so we can interpret your question and possibly critique the source. For active funds, at least, trading costs actually increased immediately following decimalization (see Bollen and Busse, 2006 JFQA). – farnsy Oct 8 '17 at 15:08
  • I am voting to close this question because the self-answering on such a controversial topic feels like blatant abuse of this forum to post a personal opinion. In reality decreased tick size is far from the only factor that determines payments for order flow; the fees and rebates (i.e. payments for orders) at a venue can be used to artificially increase or decrease spreads however the venue wants. One side of the debate (not brokers or exchanges, of course) believes that payment for order flow is higher now than it has ever been and is the main impediment to free and open markets. – dg99 Oct 17 '17 at 22:32
  • Hi @dg99, I am sorry you feel that way. I don't try to blatantly abuse this forum, I just wanted some help for a class at university. By now the answer was provided by the lecturer so I posted it. Feel free to provide an additional answer. – Janothan Oct 19 '17 at 15:57

Assume the minimum tick size is 12.5 ct and further assume the spread is evenly set around the midpoint:

           |-- 6.25 ct
12.5 ct ---|     
           |-- 6.25 ct

If the actual (equilibrium) spread was 5 ct:

           |-- 2.5 ct
5 ct ------|  
           |-- 2.5 ct

The market maker makes 6.25 ct per transaction in the 12.5 ct case. Hence, if the minimal spread was 12.5 ct he would be willing to pay up to 3.75 ct (=6.25-2.5) for each transaction.

If you reduce the minmum tick size, the market maker will pay less for the order stream because there is less money to make.

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