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Please use this identifier to cite or link to this item:
http://hdl.handle.net/2451/26616
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| Title: | Investor Uncertainty and Order Flow Information |
| Authors: | Saar, Gideon |
| Issue Date: | Nov-2001 |
| Series/Report no.: | FIN-01-063 |
| Abstract: | This paper proposes an alternative explanation for the price impact of
trades created by information that is carried in the order flow. Unlike
models that consider information asymmetry about the future cash flows
(or liquidation value) of the asset, the approach here postulates
uncertainty about the distribution of preferences and endowments of
investors. This investor uncertainty results in prices moving on
trades and therefore creates a spread between the bid and the ask.
Greater investor uncertainty increases the spread, decreases expected
trading volume, and lowers the welfare of all investors in the market.
Hence, all investors are better off if market makers are expert in
assessing the distribution of preferences and endowments of the investor
population. The information content of the order flow is further
investigated by applying an econometric spread decomposition procedure
to data generated by simulating the model. The results indicate that a
significant adverse selection component of the spread can arise solely
due to the informational effects of investor uncertainty. |
| URI: | http://hdl.handle.net/2451/26616 |
| Appears in Collections: | Economics Working Papers
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