Price Impact Asymmetry of Block Trades: An Institutional Trading Explanation

Abstract

Empirical research in finance documented the existence of a permanent price impact asymmetry between buyer and seller-initiated block trades: the permanent price impact of buys is larger than that of sells. This paper develops a theoretical model to explain and investigate the asymmetry phenomenon. The model formalizes an intuition that the dynamic trading strategy of profit-maximizing institutional portfolio managers creates a difference between the information content of buys and sells. It is this difference that causes the expected permanent price impact asymmetry. The model produces new empirical implications concerning the relationship between the asymmetry phenomenon and the economic environment. The main implication of the model is that the history of price performance in uences the asymmetry. The longer the run-up in a stock's price, the less is the asymmetry. The greater the trading intensity of institutional investors or the more "informationally-active" a stock, the more pronounced is the asymmetry when a stock's price has not been going up or is at the beginning of a price run-up. The opposite result appears after a long period of (abnormal) price appreciation.