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Determinants of Trading Profits: The Liquidity Provision Decision

Author

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  • Joon Chae
  • Albert Wang

Abstract

Theories show that liquidity provision implies negative contemporaneous correlation between trades and returns. Dealers on the Taiwan Stock Exchange are granted typical dealer trading advantages without obligations to provide liquidity and, thus, are ideal to test whether these advantages lead to voluntary liquidity provision (earning bid-ask spreads) or information trading (trading in the direction of the market). We find a strong positive correlation in aggregate, implying that these unrestricted dealers prefer information trading. We also find that smaller dealers are more likely to provide liquidity and that small-cap stocks (with larger bid-ask spreads) are more profitable for liquidity provision.

Suggested Citation

  • Joon Chae & Albert Wang, 2009. "Determinants of Trading Profits: The Liquidity Provision Decision," Emerging Markets Finance and Trade, Taylor & Francis Journals, vol. 45(6), pages 33-56, November.
    • Handle: RePEc:mes:emfitr:v:45:y:2009:i:6:p:33-56
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    Cited by:

    1. Barber, Brad M. & Lee, Yi-Tsung & Liu, Yu-Jane & Odean, Terrance, 2014. "The cross-section of speculator skill: Evidence from day trading," Journal of Financial Markets, Elsevier, vol. 18(C), pages 1-24.

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