Removing the Trade Size Constraint? Evidence from the Italian Market Design

Trading venues often impose a minimum trade unit constraint (MTUC) to facilitate order execution. This paper examines the effects of a natural experiment at Borsa Italiana where the exchange reduced the MTUC to one share for all stocks. After the removal of the MTUC, we observe a substantial improvement in liquidity, measured by a decrease in the bid-ask spread and an increase in market depth. The cross-sectional evidence shows that those firms for which the MTUC was more binding benefit the most from the microstructure change. These findings are consistent with a model of asymmetric information in which the MTUC affects traders' choice of order size. As the model predicts, liquidity improves following the reduction in adverse selection costs.