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Information Linkages and Correlated Trading

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  • Paolo Colla
  • Antonio Mele

Abstract

In a market with informationally connected traders, the dynamics of volume, price informativeness, price volatility, and liquidity are severely affected by the information linkages every trader experiences with his peers. We show that in the presence of information linkages among traders, volume and price informativeness increase. Moreover, we find that information linkages improve or damage market depth, and lower or boost the Traders' profits, according to whether these linkages convey positively or negatively correlated signals. Finally, our model predicts patterns of trade correlation consistent with those identified in the empirical literature: trades generated by "neighbor" traders are positively correlated and trades generated by "distant" traders are negatively correlated. The Author 2009. Published by Oxford University Press on behalf of The Society for Financial Studies. All rights reserved. For Permissions, please e-mail: journals.permissions@oxfordjournals.org., Oxford University Press.

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Bibliographic Info

Article provided by Society for Financial Studies in its journal The Review of Financial Studies.

Volume (Year): 23 (2010)
Issue (Month): 1 (January)
Pages: 203-246

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Handle: RePEc:oup:rfinst:v:23:y:2010:i:1:p:203-246

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References

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Citations

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Cited by:
  1. Menkhoff, Lukas & Schmeling, Maik, 2009. "Trader see, trader do: How do (small) FX traders react to large counterparties' trades?," Diskussionspapiere der Wirtschaftswissenschaftlichen Fakultät der Leibniz Universität Hannover dp-415, Leibniz Universität Hannover, Wirtschaftswissenschaftliche Fakultät.
  2. Grullon, Gustavo & Underwood, Shane & Weston, James P., 2014. "Comovement and investment banking networks," Journal of Financial Economics, Elsevier, vol. 113(1), pages 73-89.
  3. Gray, Wesley, 2008. "Information Exchange and the Limits of Arbitrage," MPRA Paper 11918, University Library of Munich, Germany, revised 31 Nov 2008.
  4. Antonio Mele, 2008. "Information Linkages and Correlated Trading," FMG Discussion Papers dp620, Financial Markets Group.
  5. Jeremy C. Stein, 2007. "Conversations Among Competitors," NBER Working Papers 13370, National Bureau of Economic Research, Inc.
  6. Ana Babus, 2011. "Strategic Relationships in Over-the-Counter Markets," 2011 Meeting Papers 1405, Society for Economic Dynamics.
  7. Ozsoylev, Han N. & Walden, Johan, 2011. "Asset pricing in large information networks," Journal of Economic Theory, Elsevier, vol. 146(6), pages 2252-2280.
  8. Cho, Myeonghwan & Jun, Byung-hill, 2013. "Information sharing with competition," Economics Letters, Elsevier, vol. 119(1), pages 81-84.
  9. Manela, Asaf, 2014. "The value of diffusing information," Journal of Financial Economics, Elsevier, vol. 111(1), pages 181-199.

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