The informational impact of electronic trading systems on the FTSE 100 stock index and its futures contracts

Helder M C V Sebastião

doi:10.1080/13518470903345729

Abstract

This article examines the partial adjustment factors of Financial Times Stock Exchange (FTSE) 100 stock index and stock index futures. Using high frequency data from 15 January 1997 to 17 March 2000, it aims to assess the informational impact of the electronic trading systems implemented at the London Stock Exchange and London International Financial Futures Exchange (LIFFE). The results suggest that information runs mainly from the futures market to the spot market. We find that the introduction of stock exchange trading system, in October 1997, has increased the FTSE 100 index's absolute efficiency; however, it reduced the informational feedback to the futures market. The implementation of LIFFE CONNECT at LIFFE, in May 1999, has reduced the absolute and relative efficiency of FTSE 100 futures. These findings seem to imply that during the period under scrutiny electronic trading increased the level of microstructural noise, probably due to the bid–ask bounce and order flow imbalances.

Highlights

This article aims to assess the impact of electronic trading systems, implemented at the London Stock Exchange and London International Financial Futures Exchange (LIFFE), on the absolute and relative efficiency of Financial Times Stock Exchange (FTSE) 100 index and futures contracts using partial adjustment factors
(5) There is some evidence that LIFFE CONNECT has slowed down the adjustment process and has increased the relative level of noise in the futures price formation process
Several results point in this direction: (a) the number of ARMA estimates statistically different from unity increases in P3, (b) all estimates at a frequency of 1-min have decreased substantially and (c) the unfiltered, ARMA and ARMA–GARCH cross-covariance estimates decrease, on average, at all frequencies

Summary

Introduction

This article aims to assess the impact of electronic trading systems, implemented at the London Stock Exchange and London International Financial Futures Exchange (LIFFE), on the absolute and relative efficiency of Financial Times Stock Exchange (FTSE) 100 index and futures contracts using partial adjustment factors.The informational linkage between stock indices and stock index futures has been extensively analysed, both theoretically and empirically, in the finance literature (see, e.g. Stoll and Whaley 1990; Chan 1992; Abhyankar 1995; Pizzi, Economopoulos, and O’Neil 1998; Booth, So, and Tse 1999; Frino, Walter, and West 2000). There are several economic reasons to support the claim that in highly liquid markets for individual assets, such as the futures market, it takes just a few minutes or even seconds for the complete adjustment of prices to new information. This claim is empirically sustained by event studies designed to examine the effect of firm-specific information disclosure, such as earnings, dividends, takeovers announcements, and, most by those designed to explore the effect of macroeconomic announcements on index futures contracts (Ederington and Lee 1993, 1995)

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