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RFS Advance Access originally published online on August 25, 2004
Review of Financial Studies 2005 18(2):599-636; doi:10.1093/rfs/hhi005
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The Review of Financial Studies Vol. 18, No. 2 © 2004 The Society for Financial Studies; all rights reserved.

Anonymity, Adverse Selection, and the Sorting of Interdealer Trades

Peter C. Reiss
Stanford University

Ingrid M. Werner
The Ohio State University

This article uses unique data from the London Stock Exchange to examine how trader anonymity and market liquidity affect dealers' decisions about where to place interdealer trades. During our sample period, dealers could trade with each other in the direct, nonanonymous public market or use one of four anonymous brokered trading systems. Surprisingly, we find that adverse selection is less prevalent in the anonymous brokered markets. We show that this pattern can be explained by the way dealers "price" the adverse selection risk inherent in trading with other dealers. We also relate our findings to recent changes in dealer markets.


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