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Predatory Trading

  • Markus K Brunnermeier
  • Lasse Heje Pederson

This paper studies predatory trading: trading that induces and/or exploits other investors' need to reduce their positions. We show that if one trader needs to sell, others also sell and subsequently buy back the asset. This leads to price overshooting, and a reduced liquidation value for the distressed trader. Hence, the market is illiquid when liquidity is most needed. Further, a trader profits from triggering another trader's crisis, and the crisis can spill over across traders and across assets.

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File URL: http://www.lse.ac.uk/fmg/workingPapers/discussionPapers/fmgdps/DP441.pdf
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Paper provided by Financial Markets Group in its series FMG Discussion Papers with number dp441.

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Date of creation: Mar 2003
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Handle: RePEc:fmg:fmgdps:dp441
Contact details of provider: Web page: http://www.lse.ac.uk/fmg/

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  1. De Long, J Bradford, et al, 1990. " Positive Feedback Investment Strategies and Destabilizing Rational Speculation," Journal of Finance, American Finance Association, vol. 45(2), pages 379-95, June.
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  4. Grossman, Sanford J, 1988. "An Analysis of the Implications for Stock and Futures Price Volatility of Program Trading and Dynamic Hedging Strategies," The Journal of Business, University of Chicago Press, vol. 61(3), pages 275-98, July.
  5. Lubos Pastor & Robert F. Stambaugh, 2001. "Liquidity Risk and Expected Stock Returns," NBER Working Papers 8462, National Bureau of Economic Research, Inc.
  6. Allen, Franklin & Gale, Douglas, 1992. "Stock-Price Manipulation," Review of Financial Studies, Society for Financial Studies, vol. 5(3), pages 503-29.
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  8. Gennotte, Gerard & Leland, Hayne, 1990. "Market Liquidity, Hedging, and Crashes," American Economic Review, American Economic Association, vol. 80(5), pages 999-1021, December.
  9. Jarrow, Robert A., 1992. "Market Manipulation, Bubbles, Corners, and Short Squeezes," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 27(03), pages 311-336, September.
  10. Stephen Morris & Hyun Song Shin, 2004. "Liquidity Black Holes," Yale School of Management Working Papers ysm425, Yale School of Management.
  11. Zhiwu Chen & Werner Stanzl & Masahiro Watanabe, 2002. "Price Impact Costs and the Limit of Arbitrage," Yale School of Management Working Papers ysm251, Yale School of Management, revised 08 Jun 2006.
  12. Madrigal, Vicente, 1996. " Non-fundamental Speculation," Journal of Finance, American Finance Association, vol. 51(2), pages 553-78, June.
  13. Shleifer, Andrei, 1986. " Do Demand Curves for Stocks Slope Down?," Journal of Finance, American Finance Association, vol. 41(3), pages 579-90, July.
  14. Grossman, S.J. & Miller, M.H., 1988. "Liquidity And Market Structure," Papers 88, Princeton, Department of Economics - Financial Research Center.
  15. Radner, Roy, 1980. "Collusive behavior in noncooperative epsilon-equilibria of oligopolies with long but finite lives," Journal of Economic Theory, Elsevier, vol. 22(2), pages 136-154, April.
  16. Acharya, Viral V & Pedersen, Lasse Heje, 2004. "Asset Pricing with Liquidity Risk," CEPR Discussion Papers 4718, C.E.P.R. Discussion Papers.
  17. Lynch, Anthony W & Mendenhall, Richard R, 1997. "New Evidence on Stock Price Effects Associated with Changes in the S&P 500 Index," The Journal of Business, University of Chicago Press, vol. 70(3), pages 351-83, July.
  18. Dilip Abreu & Markus K. Brunnermeier, 2002. "Bubbles and crashes," LSE Research Online Documents on Economics 24905, London School of Economics and Political Science, LSE Library.
  19. Scholes, Myron S, 1972. "The Market for Securities: Substitution versus Price Pressure and the Effects of Information on Share Prices," The Journal of Business, University of Chicago Press, vol. 45(2), pages 179-211, April.
  20. Longstaff, Francis A, 2001. "Optimal Portfolio Choice and the Valuation of Illiquid Securities," Review of Financial Studies, Society for Financial Studies, vol. 14(2), pages 407-31.
  21. Jeffrey Wurgler & Ekaterina Zhuravskaya, 2002. "Does Arbitrage Flatten Demand Curves for Stocks?," The Journal of Business, University of Chicago Press, vol. 75(4), pages 583-608, October.
  22. Antonio Bernardo & Ivo Welch, 2006. "Liquidity and Financial Market Runs," Yale School of Management Working Papers ysm280, Yale School of Management, revised 01 Aug 2003.
  23. H. Henry Cao & Richard K. Lyons & Martin D.D. Evans, 2003. "Inventory Information," NBER Working Papers 9893, National Bureau of Economic Research, Inc.
  24. Bolton, Patrick & Scharfstein, David S, 1990. "A Theory of Predation Based on Agency Problems in Financial Contracting," American Economic Review, American Economic Association, vol. 80(1), pages 93-106, March.
  25. Albert S. Kyle, 2001. "Contagion as a Wealth Effect," Journal of Finance, American Finance Association, vol. 56(4), pages 1401-1440, 08.
  26. Kyle, Albert S, 1985. "Continuous Auctions and Insider Trading," Econometrica, Econometric Society, vol. 53(6), pages 1315-35, November.
  27. Chan, Louis K C & Lakonishok, Josef, 1995. " The Behavior of Stock Prices around Institutional Trades," Journal of Finance, American Finance Association, vol. 50(4), pages 1147-74, September.
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