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on Market Microstructure |
| By: | Valseth, Siri (UiS) |
| Abstract: | This paper investigates whether establishing an electronic limit order book (LOB) in a current over-the-counter (OTC) bond market will move the price discovery process onto the new venue and if so, whether informed traders supply or demand liquidity. A detailed data set from the hybrid Norwegian government bond market shows that informed dealers prefer market orders in the LOB. The results further show that uninformed dealers tend to provide liquidity to informed dealers. Informed dealers’ preference for speed can reflect that limit orders and OTC trading are exposed to waiting costs which can be substantial in many bond markets. These findings suggest that recently proposed pre-trade transparency requirements will contribute to a more effcient price discovery process in current OTC bond markets and that an incentive scheme for liquidity suppliers could enhance it further. |
| Keywords: | Bonds; informed dealers; order flow |
| JEL: | G12 G14 G17 |
| Date: | 2016–11–09 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:stavef:2016_013&r=mst |
| By: | Meling, Tom Grimstvedt (University of Bergen (UiB)); Odegaard, Bernt Arne (UiS) |
| Abstract: | We explore an event where three stock exchanges (Chi-X, Turquoise, BATS Europe) in 2009 reduced their tick sizes (the minimum price increment in the limit order book) for stocks with a primary listing at the Oslo Stock Exchange (OSE). The OSE quickly responded by reducing its own tick sizes, before all markets agreed on a common tick size structure. Consistent with recent theoretical work by Buti, Consonni, Rindi, Wen and Werner (2015), we find that markets with small tick sizes capture market shares. However, inconsistent with Buti et al, we find little evidence that the observed changes to market shares are due to cross-market differences in tick size constraints. Instead, our empirical results suggest that the tick size affects the distribution of market shares through its impact on the trading behavior of high-frequency traders. Finally, we find that tick size reductions appear to have negative spill-over effects on the stock liquidity in markets that keep larger tick sizes. |
| Keywords: | Equity Trading; Limit Order Markets; Tick Sizes; High Frequency Trading |
| JEL: | G10 G20 |
| Date: | 2016–11–09 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:stavef:2016_015&r=mst |
| By: | Dionne, Georges (HEC Montreal, Canada Research Chair in Risk Management); Zhou, Xiaozhou (Universite du Quebec a Montreal - UQAM) |
| Abstract: | Given the importance of the Limit Order Book (LOB) in price formation and in gauging liquidity and information asymmetry, we model the evolution of the ex-ante weighted spread embedded in an open LOB and investigate the impact of market-related variables on such spread. Our modeling involves decomposing the joint distribution of the ex-ante weighted spread into simple and interpretable distributions. Our results have several implications: (i) trade durations, quote durations, and other short-run variables, such as spread change and volume, do influence the ex-ante weighted spread; (ii) trade imbalance does not affect the state of the LOB; (iii) trade volume has a very different effect on low-level and high-level LOB; (iv) there is an asymmetry in magnitudes of weighted spread increase and decrease. Finally, we propose a possible application of our decomposition model in computing stock resiliency and show that low-level spread is more resilient than high-level spread. |
| Keywords: | Limit order book; Ex-ante weighted spread; Decomposition model; Liquidity; Resiliency. |
| JEL: | C22 C41 C53 G11 |
| Date: | 2016–11–14 |
| URL: | http://d.repec.org/n?u=RePEc:ris:crcrmw:2016_004&r=mst |
| By: | Tim Leung; Jamie Kang |
| Abstract: | American Depositary Receipts (ADRs) are exchange-traded certificates that rep- resent shares of non-U.S. company securities. They are major financial instruments for investing in foreign companies. Focusing on Asian ADRs in the context of asyn- chronous markets, we present methodologies and results of empirical analysis of their returns. In particular, we dissect their returns into intraday and overnight com- ponents with respect to the U.S. market hours. The return difference between the S&P500 index, traded through the SPDR S&P500 ETF (SPY), and each ADR is found to be a mean-reverting time series, and is fitted to an Ornstein-Uhlenbeck process via maximum-likelihood estimation (MLE). Our empirical observations also lead us to develop and backtest pairs trading strategies to exploit the mean-reverting ADR-SPY spreads. We find consistent positive payoffs when long position in ADR and short position in SPY are simultaneously executed at selected entry and exit levels. |
| Date: | 2016–10 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1611.03110&r=mst |
| By: | Hai-Chuan Xu (ECUST); Zhi-Qiang Jiang (ECUST); Wei-Xing Zhou (ECUST) |
| Abstract: | Based on the order flow data of a stock and its warrant, the immediate price impacts of market orders are estimated by two competitive models, the power-law model (PL model) and the logarithmic model (LG model). We find that the PL model is overwhelmingly superior to the LG model, regarding the robustness of the estimated parameters and the accuracy of out-of-sample forecasting. We also find that the price impacts of ask and bid orders are consistent with each other for filled trades, since significant positive correlations are observed between the model parameters of both types of orders. Our findings may provide valuable insights for optimal trade execution. |
| Date: | 2016–11 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1611.04091&r=mst |
| By: | David A. Cimon |
| Abstract: | The primary focus of this paper is to study conflict of interest in the brokerage market. Brokers face a conflict of interest when the commissions they receive from investors differ from the costs imposed by different trading venues. I construct a model of limit order trading in which brokers serve as agents for investors who wish to access equity markets. I find that brokers preferentially route marketable orders to venues with lower liquidity demand fees, driving up the execution probability at these venues and lowering adverse selection costs. When fees for liquidity supply and demand are sufficiently different, brokers route liquidity supplying orders to separate venues, where investors suffer from lower execution probability and higher costs of adverse selection. |
| Keywords: | Financial markets, Market structure and pricing |
| JEL: | G24 G28 |
| Date: | 2016 |
| URL: | http://d.repec.org/n?u=RePEc:bca:bocawp:16-50&r=mst |
| By: | Peiran Jiao; Andre Veiga; Ansgar Walther |
| Abstract: | Abstract: We contrast the impact of traditional news media and social media coverage on stock market volatility and trading volume. We develop a theoretical model of asset pricing and information processing, which allows for both rational traders and a variety of commonly studied behavioral biases. The model yields several novel and testable predictions about the impact of news and social media on asset prices. We then test the model’s theoretical predictions using a unique dataset which measures coverage of individual stocks in social and news media using a broad spectrum of print and online sources. Stocks with high social media coverage in one month experience high idiosyncratic volatility of returns and trading volume in the following month. Conversely, stocks with high news media coverage experience low volatility and low trading volume in the following month. These effects are statistically and economically significant and robust to controlling for stock and time fixed effects, as well as time-varying stock characteristics. The empirical evidence on news media is consistent with a market in which some traders are overconfident when interpreting new information. The evidence on social media is consistent with Tetlock (2011)’s “stale news” hypothesis (investors treat repeated information on social networks as though it were new) and with a model where investors’ perceptions are subject to random sentiment shocks. |
| Keywords: | Social media, news media, behavioral finance, volatility, trading volume |
| JEL: | G02 G12 G14 |
| Date: | 2016–10–12 |
| URL: | http://d.repec.org/n?u=RePEc:oxf:wpaper:paper-805&r=mst |
| By: | F. Lilla |
| Abstract: | Forecasting-volatility models typically rely on either daily or high frequency (HF) data and the choice between these two categories is not obvious. In particular, the latter allows to treat volatility as observable but they suffer of many limitations. HF data feature microstructure problem, such as the discreteness of the data, the properties of the trading mechanism and the existence of bid-ask spread. Moreover, these data are not always available and, even if they are, the asset’s liquidity may be not sufficient to allow for frequent transactions. This paper considers different variants of these two family forecasting-volatility models, comparing their performance (in terms of Value at Risk, VaR) under the assumptions of jumping prices and leverage effects for volatility. Findings suggest that GARJI model provides more accurate VaR measures for the S&P 500 index than RV models. Furthermore, the assumption of conditional normality is shown to be not sufficient to obtain accurate risk measures even if jump contribution is provided. More sophisticated models might address this issue, improving VaR results. |
| JEL: | C58 C53 C22 C01 C13 |
| Date: | 2016–11 |
| URL: | http://d.repec.org/n?u=RePEc:bol:bodewp:wp1084&r=mst |
| By: | Paulwin Graewe; Ulrich Horst |
| Abstract: | We study an optimal execution problem in illiquid markets with both instantaneous and persistent price impact and stochastic resilience when only absolutely continuous trading strategies are admissible. In our model the value function can be described by a three-dimensional system of backward stochastic differential equations (BSDE) with a singular terminal condition in one component. We prove existence and uniqueness of a solution to the BSDE system and characterize both the value function and the optimal strategy in terms of the unique solution to the BSDE system. Our existence proof is based on an asymptotic expansion of the BSDE system at the terminal time that allows us to express the system in terms of a equivalent system with finite terminal value but singular driver. |
| Date: | 2016–11 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1611.03435&r=mst |
| By: | Peiran Jiao; Amos Nadler |
| Abstract: | Abstract: Financial markets deviate from efficiency due to behavioral causes and there is growing evidence that biological factors affect individual financial decisions that could be reflected in markets. Many behavioral influences on asset prices have underlying biological mechanisms associated with fluctuations in the levels of the male sex hormone testosterone. Testosterone, a chemical messenger especially influential in male physiology, varies cyclically and in response to challenge, fluctuates according to victory and defeat, and is taken as a performance-enhancer among some financial professionals, yet no study has tested how it causally affects trading decisions. We exogenously elevated testosterone in traders in an experimental asset market and found that it causes significantly higher and longer-lasting asset overpricing compared to placebo. Using both aggregated and individual trading data we demonstrate that testosterone administration generates bubbles by causing persistently high bids and slow incorporation of asset fundamental value among traders. |
| Keywords: | Asset price bubbles, Experiment, Testosterone |
| JEL: | G11 G12 C23 C91 C92 D87 |
| Date: | 2016–10–13 |
| URL: | http://d.repec.org/n?u=RePEc:oxf:wpaper:806&r=mst |
| By: | Albert Menkveld (VU University Amsterdam); Boyan Jovanovic (New York University) |
| Abstract: | Competitive bidding by homogeneous agents in a first-price auction can yield a non-degenerate bid price distribution. This price dispersion is the unique equilibrium in a setting where bidders “pay to play.†Ex ante, bidders decide simultaneously on whether to play or not. Ex post, those who play submit their bid simultaneously not knowing who else is in the market. The price-dispersion result is applied to high-frequency bidding in limit-order markets. The parsimonious model fits the bid-price dispersion for S&P 500 stocks remarkably well. |
| Date: | 2016 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed016:1395&r=mst |