Price informativeness and predictability: how liquidity can help
Information asymmetry and liquidity concentration has been widely discussed in literatures. This study shows how liquidity influences not only forecasting performances of term structure estimation, but also information transmission and price adjustment across markets. Our analysis helps understanding how extreme market movements affect one another. This study examines, and provides a rationale for incorporating, liquidity in estimating term structure. Forecasting performance can be greatly enhanced when conditioning on trading liquidity. It reduces information asymmetry in the sense of Easley and O'Hara (2004) and Burlacu et al. (2007). We adopt a time series forecasting model following Diebold and Li (2006) to compare behaviour of forecasted price errors. Our findings indicate that forecasted price errors in markets with less depth would influence those with more. Information asymmetry induces volatile trading first and then price adjustment is transmitted to another market due to insufficient market depth. Cross-market price adjustment could be as much as 21 bps on average. Compared with previous studies, our results establish a valid reason to condition on liquidity when forecasting prices.
If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.
Volume (Year): 43 (2011)
Issue (Month): 17 ()
|Contact details of provider:|| Web page: http://www.tandfonline.com/RAEC20|
|Order Information:||Web: http://www.tandfonline.com/pricing/journal/RAEC20|
References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- David Easley & Soeren Hvidkjaer & Maureen O'Hara, 2002. "Is Information Risk a Determinant of Asset Returns?," Journal of Finance, American Finance Association, vol. 57(5), pages 2185-2221, October.
- Sarig, Oded & Warga, Arthur, 1989. "Bond Price Data and Bond Market Liquidity," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 24(03), pages 367-378, September.
- T. Clifton Green, 2004. "Economic News and the Impact of Trading on Bond Prices," Journal of Finance, American Finance Association, vol. 59(3), pages 1201-1234, 06.
- Favero, Carlo A. & Niu, Linlin & Sala, Luca, 2007.
"Term Structure Forecasting: No-Arbitrage Restrictions vs Large Information Set,"
CEPR Discussion Papers
6206, C.E.P.R. Discussion Papers.
- Carlo A. Favero & Linlin Niu & Luca Sala, 2007. "Term Structure Forecasting: No-arbitrage Restrictions vs. Large Information Set," Working Papers 318, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
- Edwin J. Elton & T. Clifton Green, 1998. "Tax and Liquidity Effects in Pricing Government Bonds," Journal of Finance, American Finance Association, vol. 53(5), pages 1533-1562, October.
- Henker, Thomas & Wang, Jian-Xin, 2006. "On the importance of timing specifications in market microstructure research," Journal of Financial Markets, Elsevier, vol. 9(2), pages 162-179, May.
- Diaz, Antonio & Merrick, John Jr. & Navarro, Eliseo, 2006. "Spanish Treasury bond market liquidity and volatility pre- and post-European Monetary Union," Journal of Banking & Finance, Elsevier, vol. 30(4), pages 1309-1332, April.
- Amihud, Yakov, 2002. "Illiquidity and stock returns: cross-section and time-series effects," Journal of Financial Markets, Elsevier, vol. 5(1), pages 31-56, January.
- Bolder, David & Streliski, David, 1999. "Yield Curve Modelling at the Bank of Canada," Technical Reports 84, Bank of Canada. Full references (including those not matched with items on IDEAS)
When requesting a correction, please mention this item's handle: RePEc:taf:applec:v:43:y:2011:i:17:p:2199-2217. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Michael McNulty)
If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.
If references are entirely missing, you can add them using this form.
If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.
If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.
Please note that corrections may take a couple of weeks to filter through the various RePEc services.