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Noise Trading, Transaction Costs, and the Relationship of Stock Returns and Trading Volume

Author

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  • Mr. Charles Frederick Kramer

Abstract

The relationship of stock returns and trading volume is the focus of much recent interest. I examine an economic model of a rational trader who operates in a market with transactions costs and noise trading. The level of trading affects the rational trader’s marginal cost of transacting; as a result, trading volume is a source of risk. This engenders an equilibrium relationship between returns and volume. The model also provides a simple way to scrutinize this relationship empirically. Empirical evidence supports the implications of the model.

Suggested Citation

  • Mr. Charles Frederick Kramer, 1994. "Noise Trading, Transaction Costs, and the Relationship of Stock Returns and Trading Volume," IMF Working Papers 1994/126, International Monetary Fund.
    • Handle: RePEc:imf:imfwpa:1994/126
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