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  3. 2022
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  5. Market Microstructure
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Market Microstructure

Paper Session

Saturday, Jan. 8, 2022 10:00 AM - 12:00 PM (EST)

Hosted By: Econometric Society
  • Chair: Mao Ye, University of Illinois-Urbana-Champaign

The Value of Off-Exchange Data

Thomas Ernst
,
University of Maryland
Jonathan Sokobin
,
Financial Industry Regulatory Authority
Chester Spatt
,
Carnegie Mellon University

Abstract

Exploiting the structure of geographic latencies, we study the effect of trade reporting of off-exchange equity transactions and contrast that with reporting of exchange trading. Publication of off-exchange transactions by the Securities Information Processor (SIP), leads to a sharp burst in trading and quoting activity, suggesting that market participants learn from those reports, with their unique information content lingering throughout the lengthy reporting process. In contrast, there is no spike in response to SIP publication of exchange trading, but instead an earlier spike that reflects the response to the near-immediate reporting from proprietary feeds. Due to the varied locations of the off-exchange trade reporting facilities (TRFs), SIPs and exchanges, we use distinct geographical latencies to pinpoint the patterns. We document that realized spreads for the TRF-response trades are negative, consistent with these orders being informationally-motivated. An interesting puzzle concerns why market participants do not react to publication of off-exchange trades in proprietary data feeds, despite the value of its information.

(In)efficiency in Information Acquisition and Aggregation through Prices

Alessandro Pavan
,
Northwestern University
Savitar Sundaresan
,
Imperial College London
Xavier Vives
,
IESE Business School

Abstract

The paper studies the interaction between traders’ acquisition of private information and the aggregation of information in financial markets. We consider a canonical market microstructure in which partially-informed traders compete in schedules and prices partially aggregate the traders’ private information. Before submitting their demand schedules, traders acquire information about the long-term profitability of the traded asset. We show that, when the errors in the traders’ signals are correlated, policies that induce the traders to submit the efficient schedules when the traders’ private information is exogenous do not necessarily induce them to collect the efficient amount of private information. In particular, we identify conditions under which such policies induce over-investment (alternatively, under-investment) in information acquisition, relative to what is efficient. We find that, as information technology reduces the cost of acquiring information, the economy eventually moves to a regime with excessive information acquisition. Finally, we show that, generically, there exists no policy based on the price of the financial asset and the volume of individual trades that implements efficiency in both information acquisition and trading. Such an impossibility result, however, turns into a possibility result when taxes can be made contingent on the aggregate volume of trade, or when the acquired information is verifiable.

A Theory of Stock Exchange Competition and Innovation: Will the Market Fix the Market?

Eric Budish
,
University of Chicago
Robin Lee
,
Harvard University
John Shim
,
University of Notre Dame

Abstract

This paper builds a new model of financial exchange competition, tailored to the institutional details of the modern US stock market. In equilibrium, exchange trading fees are competitive but exchanges are able to earn economic profits from the sale of speed technology. We document stylized facts consistent with these results. We then use the model to analyze incentives for market design innovation. The novel tension between private and social innovation incentives is incumbents’ rents from speed technology in the status quo. This creates a disincentive to adopt new market designs that eliminate latency arbitrage and the high-frequency trading arms race.

Information Sharing in Financial Markets

Itay Goldstein
,
University of Pennsylvania
Yan Xiong
,
Hong Kong University of Science and Technology
Liyan Yang
,
University of Toronto

Abstract

This paper studies information sharing between strategic investors who are privately informed about asset fundamental with different precision levels. We find that a coarsely informed investor would always share her information “as is” if her counterparty investor is well informed about the fundamental. By doing so, the coarsely informed investor invites the well informed investor to trade against her information, thereby offsetting her informed order flow and reducing the price impact. In equilibrium, the coarsely informed investor gains from the information sharing and the well informed investor loses from it. Our model sheds new light on phenomena such as communication on social media, investors' trading strategies based on sentiment, and information networks in financial markets.

Discussant(s)
Justin McCrary
,
Columbia University
Eduardo Davila
,
Yale University
Christine A. Parlour
,
University of California-Berkeley
Albert Kyle
,
University of Maryland
JEL Classifications
  • G1 - Asset Markets and Pricing
  • D4 - Market Structure, Pricing, and Design