Adverse selection costs for NASDAQ and NYSE after decimalization

NYSE and NASDAQ completed their decimalization on January 29, 2001 and on April 9, 2001 respectively. In this paper, we compare adverse selection component of the bid–ask spread for NASDAQ and NYSE stocks after decimalization using the data from May 2001 and July 2001. We find that the adverse selection component of the bid–ask spread is significantly lower on NASDAQ than on NYSE, and these differences cannot be attributed to the differences in the characteristics of the stocks traded in the two markets. In addition, we find that the adverse selection costs increase with trade size on NYSE, however there is no monotonic pattern observed for NASDAQ stocks. Lastly, we report that although the order flows arrived in the two markets are significantly different, they can at best explain a small portion of the observed differences in adverse selection costs.