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Rational Information Leakage

Author

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  • Raffi Indjejikian

    (Stephen M. Ross School of Business, University of Michigan, Ann Arbor, Michigan 48109)

  • Hai Lu

    (Rotman School of Management, University of Toronto, Toronto, Ontario M5S 3E6, Canada)

  • Liyan Yang

    (Rotman School of Management, University of Toronto, Toronto, Ontario M5S 3E6, Canada)

Abstract

Empirical evidence suggests that information leakage in capital markets is common. We present a trading model to study the incentives of an informed trader (e.g., a well-informed insider) to voluntarily leak information about an asset’s value to one or more independent traders. Our model shows that, although leaking information dissipates the insider’s information advantage about the asset’s value, it enhances his information advantage about the asset’s execution price relative to other informed traders. The profit impact of these two effects are countervailing. When there are a sufficient number of other informed traders, the profit impact from enhanced information dominates. Hence, the insider has incentives to leak some of his private information. We label this rational information leakage and discuss its implications for the regulation of insider trading. This paper was accepted by Mary Barth, accounting .

Suggested Citation

  • Raffi Indjejikian & Hai Lu & Liyan Yang, 2014. "Rational Information Leakage," Management Science, INFORMS, vol. 60(11), pages 2762-2775, November.
    • Handle: RePEc:inm:ormnsc:v:60:y:2014:i:11:p:2762-2775
    DOI: 10.1287/mnsc.2014.1975
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    References listed on IDEAS

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