Market efficiency and Price Formation when Dealers are Asymmetrically Informed
We consider the effect of asymmetric information on price formation process in a quote-driven market where one market maker receives a private signal on the security's fundamental. A model is presented where market makers repeatedly compete in prices: at each stage a bid-ask auction occurs and the winner trades the security against liquidity traders. We show that at equilibrium the market is not strong-form efficient until the last stage. We characterize a reputational equilibrium in which the informed market maker will aspect market beliefs, possibly misleading them, in the sense that he will push the uninformed participants to think the value of the risky asset is different from the realized one. At this equilibrium a price leadership effect arises, quotes are never equal to the expected value of the asset given the public information, the informed market maker expected payoff is positive and the information revelation speed is slower than in an analogous order-driven market.
|Date of creation:||16 Nov 2001|
|Date of revision:|
|Contact details of provider:|| Postal: |
Web page: http://www.hec.fr/
More information through EDIRC
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.:
- Engelbrecht-Wiggans, Richard & Milgrom, Paul R. & Weber, Robert J., 1983. "Competitive bidding and proprietary information," Journal of Mathematical Economics, Elsevier, vol. 11(2), pages 161-169, April.
- Glosten, Lawrence R. & Milgrom, Paul R., 1985.
"Bid, ask and transaction prices in a specialist market with heterogeneously informed traders,"
Journal of Financial Economics,
Elsevier, vol. 14(1), pages 71-100, March.
- Lawrence R. Glosten & Paul R. Milgrom, 1983. "Bid, Ask and Transaction Prices in a Specialist Market with Heterogeneously Informed Traders," Discussion Papers 570, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
- repec:adr:anecst:y:2000:i:60:p:01 is not listed on IDEAS
- Peiers, Bettina, 1997. " Informed Traders, Intervention, and Price Leadership: A Deeper View of the Microstructure of the Foreign Exchange Market," Journal of Finance, American Finance Association, vol. 52(4), pages 1589-1614, September.
- Mertens, J.-F., 1986.
CORE Discussion Papers
1986024, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
- Schwert, G. William, 1997. "Symposium on market microstructure: Focus on Nasdaq," Journal of Financial Economics, Elsevier, vol. 45(1), pages 3-8, July.
- Cordella, Tito & Foucault, Thierry, 1997.
"Minimum Price Variations, Time Priority and Quote Dynamics,"
CEPR Discussion Papers
1717, C.E.P.R. Discussion Papers.
- Cordella, Tito & Foucault, Thierry, 1999. "Minimum Price Variations, Time Priority, and Quote Dynamics," Journal of Financial Intermediation, Elsevier, vol. 8(3), pages 141-173, July.
- Tito Cordella & Thierry Foucault, 1996. "Minimum price variations, time priority and quotes dynamics," Economics Working Papers 182, Department of Economics and Business, Universitat Pompeu Fabra.
- Thierry Foucault & Tito Cordella, 2011. "Minimum Price Variations, Time Priority and Quote Dynamics," Working Papers hal-00600249, HAL.
- Thierry Foucault & Tito Cordella, 1999. "Minimum Price Variations, Time Priority and Quote Dynamics," Post-Print hal-00459772, HAL.
- Kyle, Albert S, 1985. "Continuous Auctions and Insider Trading," Econometrica, Econometric Society, vol. 53(6), pages 1315-35, November.
- Bikhchandani, Sushil, 1988. "Reputation in repeated second-price auctions," Journal of Economic Theory, Elsevier, vol. 46(1), pages 97-119, October.
- David Kreps & Robert Wilson, 1998.
Levine's Working Paper Archive
237, David K. Levine.
- Sanford J Grossman & Joseph E Stiglitz, 1997.
"On the Impossibility of Informationally Efficient Markets,"
Levine's Working Paper Archive
1908, David K. Levine.
- Grossman, Sanford J & Stiglitz, Joseph E, 1980. "On the Impossibility of Informationally Efficient Markets," American Economic Review, American Economic Association, vol. 70(3), pages 393-408, June.
- de Jong, Frank & Mahieu, Ronald J & Schotman, Peter C, 1999. "Price Discovery on Foreign Exchange Markets," CEPR Discussion Papers 2296, C.E.P.R. Discussion Papers.
- Holden, Craig W & Subrahmanyam, Avanidhar, 1992. " Long-Lived Private Information and Imperfect Competition," Journal of Finance, American Finance Association, vol. 47(1), pages 247-70, March.
- Moscarini, Giuseppe & Ottaviani, Marco, 2001.
"Price Competition for an Informed Buyer,"
Journal of Economic Theory,
Elsevier, vol. 101(2), pages 457-493, December.
- Grossman, Sanford J & Stiglitz, Joseph E, 1976. "Information and Competitive Price Systems," American Economic Review, American Economic Association, vol. 66(2), pages 246-53, May.
- Dennert, Jurgen, 1993. "Price Competition between Market Makers," Review of Economic Studies, Wiley Blackwell, vol. 60(3), pages 735-51, July.
- Calcagno, Riccardo & Lovo, Stefano M., 1998. "Bid-Ask Price Competition with Asymmetric Information between Market Makers," Discussion Papers (IRES - Institut de Recherches Economiques et Sociales) 1998012, Université catholique de Louvain, Institut de Recherches Economiques et Sociales (IRES).
- Demsetz, Harold, 1997. "Limit orders and the alleged Nasdaq collusion," Journal of Financial Economics, Elsevier, vol. 45(1), pages 91-95, July.
- Harsanyi, John C., 1994.
"Games with Incomplete Information,"
Nobel Prize in Economics documents
1994-1, Nobel Prize Committee.
- 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.
- Foster, F Douglas & Viswanathan, S, 1993. "The Effect of Public Information and Competition on Trading Volume and Price Volatility," Review of Financial Studies, Society for Financial Studies, vol. 6(1), pages 23-56.
- Kyle, Albert S, 1989. "Informed Speculation with Imperfect Competition," Review of Economic Studies, Wiley Blackwell, vol. 56(3), pages 317-55, July.
- Foster, F Douglas & Viswanathan, S, 1996. " Strategic Trading When Agents Forecast the Forecasts of Others," Journal of Finance, American Finance Association, vol. 51(4), pages 1437-78, September.
When requesting a correction, please mention this item's handle: RePEc:ebg:heccah:0737. 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: (Sandra Dupouy)
If references are entirely missing, you can add them using this form.