Effect of Minimum Tick Size Policy on Price Efficiency and Execution Cost

Abstract

Research Question: Whether the minimum tick size has effect on small caps price efficiency and execution cost on the Indonesia Stock Exchange (IDX). Motivation: The market microstructure of the Indonesia Stock Exchange (IDX) is based on the emerging market-order driven system which is different than developed market and identified by the problem of inefficiency market. The previous related literatures to minimum tick size policy are only limited to the concept of liquidity and the bid-ask spreads (Bessembinder, 1999; Goldstein and Kavajecz, 2000; Ekaputra and Ahmad, 2007). We propose a new empirical model using Market Efficiency Coefficient (MEC) approach as the only proxy of the price efficiency, Price Inefficiency (PINE) to measure the level of price inefficiency level, and Execution Cost (COST) to measure the probability of error pricing in stock trading. This empirical model is applied to the testing of the effectiveness of minimum tick size policy and its impact on stock trading efficiency. Idea: Based on the empirical research literature, the minimum tick size policy will increase the price efficiency and reducing the execution cost for some of the securities transactions, then the execution cost can also be minimalized to create a beneficial transaction. Data: We collect the daily stock price trading, intraday price trading, and trading volume from Regular Board (RG) and RTI data recording. Method/Tools: We run the Ordinary Least Square (OLS), Quintile Regression as robust test, and General Linear Model to test the empirical model. Findings: We find that the minimum tick size insignificantly effects price efficiency and partially affects execution cost. The minimum tick size significantly affects mean of execution cost, but insignificantly affects median of execution cost. We also find that insignificant difference of small caps price efficiency level between preimplementation of the minimum tick size and post-implementation of the minimum tick size and significant difference of execution cost level between pre-implementation of the minimum tick size and post implementation of the minimum tick size. Contributions: Our research contributes to develop a robust empirical model to analyse the impact of market microstructure policy