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Strategic Behavior and Price Discovery

  • Medrano, Luis Angel
  • Vives, Xavier

We analyze the effects of strategic behavior by a large informed trader in a price discovery process used in opening auctions in continuous trading systems. It is found that the large informed trader manipulates the market using a contrarian strategy to neutralize the effect of the trades of competitive informed agents. Furthermore, consistent with the empirical evidence available, we find that information revelation accelerates close to the opening, that the market price approaches but does not converge to the fundamental value, and that the expected trading volume displays a U-shaped pattern. Copyright 2001 by the RAND Corporation.

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Article provided by The RAND Corporation in its journal RAND Journal of Economics.

Volume (Year): 32 (2001)
Issue (Month): 2 (Summer)
Pages: 221-48

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Handle: RePEc:rje:randje:v:32:y:2001:i:2:p:221-48
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  1. Keim, Donald B. & Madhavan, Ananth, 1995. "Anatomy of the trading process Empirical evidence on the behavior of institutional traders," Journal of Financial Economics, Elsevier, vol. 37(3), pages 371-398, March.
  2. Fishman, Michael J & Hagerty, Kathleen M, 1995. "The Mandatory Disclosure of Trades and Market Liquidity," Review of Financial Studies, Society for Financial Studies, vol. 8(3), pages 637-76.
  3. Benabou, R. & Laroque, G., 1989. "Using Privileged Information To Manipulate Markets: Insiders, Gurus, And Credibility," Working papers 513, Massachusetts Institute of Technology (MIT), Department of Economics.
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  9. Rochet, J.C. & Vila, J.L., 1993. "Insider Trading Without Normality," Papers 93.b, Toulouse - GREMAQ.
  10. Colin Camerer, 1998. "Can asset markets be manipulated? A field experiment with racetrack betting," Natural Field Experiments 00222, The Field Experiments Website.
  11. Foster, F. Douglas & Viswanathan, S., 1994. "Strategic Trading with Asymmetrically Informed Traders and Long-Lived Information," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 29(04), pages 499-518, December.
  12. Ma, Ching-To Albert & Manove, Michael, 1993. "Bargaining with Deadlines and Imperfect Player Control," Econometrica, Econometric Society, vol. 61(6), pages 1313-39, November.
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  15. Charles Cao & Eric Ghysels & Frank Hatheway, 1998. "Why Is the Bid Price Greater than the Ask? Price Discovery during the Nasdaq Pre-Opening," CIRANO Working Papers 98s-14, CIRANO.
  16. Gould, John P & Verrecchia, Robert E, 1985. "The Information Content of Specialist Pricing," Journal of Political Economy, University of Chicago Press, vol. 93(1), pages 66-83, February.
  17. Madhavan, Ananth & Panchapagesan, Venkatesh, 2000. "Price Discovery in Auction Markets: A Look Inside the Black Box," Review of Financial Studies, Society for Financial Studies, vol. 13(3), pages 627-58.
  18. Kyle, Albert S, 1985. "Continuous Auctions and Insider Trading," Econometrica, Econometric Society, vol. 53(6), pages 1315-35, November.
  19. Jordan, J. S., 1985. "Learning rational expectations: The finite state case," Journal of Economic Theory, Elsevier, vol. 36(2), pages 257-276, August.
  20. Kumar, Praveen & Seppi, Duane J, 1992. " Futures Manipulation with "Cash Settlement."," Journal of Finance, American Finance Association, vol. 47(4), pages 1485-502, September.
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