Intermediation Chains

Using unique audit-trail data, I find that chains of intermediaries rather than single market makers facilitate trade on exchanges. I explain this finding with a model of market makers of different speeds. High-frequency market makers provide rapid execution to fundamental traders and consume inventory risk-bearing services from slower market makers. Intermediation chains foster desirable trades but introduce an informational friction among liquidity providers that can trigger intermediation crashes. In line with model predictions, I find significant differences in counterparties and intermediation-chain positions for fast and slow market makers, as well as in the profit volatility of immediacy-supply versus risk-bearing functions.