Trading Mechanisms and Market Quality: Call Markets versus Continuous Auction Markets

On July 29, 2002, the trading mechanism in the Taiwan Futures Exchange (TAIFEX) was switched from an exclusive call market to a continuous auction market. Based upon several proxies of market quality, in the present study, we set out to empirically examine whether this switch has resulted in any significant improvement in market quality within the TAIFEX. We find that while the quoted spreads, effective spreads, and price volatility are all smaller in the continuous auction market, the call auction market exhibits greater market depth and smaller pricing errors; the latter is also found to be more effective in resolving the problem of information asymmetry. Overall, the results of the present study suggest that the choice between call and continuous auction trading mechanisms essentially involves trade‐offs between the bid‐ask spread, market depth, price volatility, information asymmetry costs, and price efficiency.     

Informed trading around merger and acquisition announcements: Evidence from the UK equity and options markets

This paper offers new evidence on informed trading around merger and acquisition announcements from the UK equity and options market. The analysis suggests that in about 25–33% of events there is abnormal option trading volume during the month that precedes the announcement. Such evidence is found in both call and put option volumes, is robust to different “estimation” and “event window” lengths, to different sub‐samples, and to liquidity considerations. These results support the argument that informed investors will transact in both the options and the stock market, and are comparable to results reported by the FSA in the cash market. © 2010 Wiley Periodicals, Inc. Jrl Fut Mark 31:703–726, 2011     

Intraday Liquidity Provision by Trader Types in a Limit Order Market: Evidence from Taiwan Index Futures

This study examines the dynamic liquidity provision process by institutional and individual traders in the Taiwan index futures market, which is a pure limit order market. The empirical analysis obtains several interesting empirical results. We find that trader type affects liquidity provision in a number of interesting ways. First, although institutional traders use more limit orders than market orders, foreign institution (individual) traders use a relatively higher percentage of market (limit) orders in the early trading session and then switch to more limit (market) orders for the remainder of the day until close to the end of the trading day. Second, net limit order submissions by both institutional and individual traders are positively related to one‐period lagged transitory volatility and negatively related to informational volatility. Third, net limit order submissions by institutional traders are positively related to one‐period lagged spread. Finally, both the state of limit order book and order size significantly influence all types of traders’ strategy on submission of limit order versus market order during the intraday trading session. © 2012 Wiley Periodicals, Inc. Jrl Fut Mark 34:145–172, 2014     

The price impact of futures trades and their intraday seasonality

This study examines the price impact of futures trades and their intraday seasonality by analyzing the continuous trading session dataset of KOSPI 200 futures, including the opening and closing periods. For this purpose, the study analyzes the futures dataset that contains information on transaction times, trade directions, order sizes, and the types of investors initiating the transactions. The results suggest several novel findings. First, a substantial portion of the price impact of futures trades is persistent, indicating the presence of informed trading in the futures market. Second, informed trading is concentrated in the opening period and liquidity trading is concentrated in the closing period of the continuous trading session. Third, small trades usually have a greater price impact than large ones, supporting the existence of stealth trading by futures traders. Fourth, trades by institutional investors have a greater price impact than those by individuals, suggesting that institutional investors are better informed and/or more sophisticated than individual investors in the futures market.     

Intraday volatility in the bond,foreign exchange,and stock index futures markets

Intraday volatility for the Eurodollar, the Euro/dollar foreign exchange rate, and the E‐mini S&P 500 futures contracts traded on a continuous 23‐hour schedule on the Chicago Mercantile Exchange Globex electronic platform is studied. Volatility transmission in a single market across different regions is mainly explained by intraregion volatility (heat waves); interregion volatility (meteor showers) plays a secondary role. The joint impact of liquidity variables such as volume and open interest on volatility is also analyzed. Volume tends to increase volatility, but open interest does not affect it. The results are explained by the type of trading venue. Unlike floor‐based trading systems, in electronic markets open interest does not seem to provide additional information on market liquidity and its relation to volatility beyond any information contributed by volume. © 2008 Wiley Periodicals, Inc. Jrl Fut Mark 28:313– 334, 2008     

Long‐term information,short‐lived securities

The authors explore strategic trade in short‐lived securities by agents who have private information that is potentially long‐term, but do not know how long their information will remain private. Trading short‐lived securities is profitable only if enough of the private information becomes public prior to contract expiration; otherwise the security will worthlessly expire. How this results in trading behavior fundamentally different from that observed in standard models of informed trading in equity is highlighted. Specifically, it is shown that informed speculators are more reluctant to trade shorter‐term securities too far in advance of when their information will necessarily be made public, and that existing positions in a shorter‐term security make future purchases more attractive. Because informed speculators prefer longer‐term securities, this can make trading shorter‐term contracts more attractive for liquidity traders. The conditions are characterized under which liquidity traders choose to incur extra costs to roll over short‐term positions rather than trade in distant contracts, providing an explanation for why most longer‐term derivative security markets have little liquidity and large bid‐ask spreads. © 2006 Wiley Periodicals, Inc. Jrl Fut Mark 26:465–502, 2006     

Are single stock futures used as an alternative during a short‐selling ban?

The response of the single stock futures (SSF) market to a short‐selling ban is investigated. The hypothesis is that traders use SSF as a substitute instrument for short‐selling. A significant increase in SSF trading activity is documented, accompanied by narrower spreads. SSF market volatility did not react during the ban, which suggests that the increased trading activity did not weaken SSF market quality. The quality of the underlying market during the ban period is also assessed, with the results suggesting that changes in SSF market activity had neither positive nor negative effects on the stocks’ liquidity, volatility, and volume.     

Liquidity,exchange listing,and common stock performance

The liquidity of securities—the relationship between volume of trading and changes in market price—has won increasing recognition as an element of investment strategy in recent years. Relatively high liquidity is deemed to be a desirable characteristic of a stock, especially for the institutional investor, who typically trades in large volume. Thus, firms can generally be expected to seek means of enhancing the liquidity of their shares. One of the supposed means of accomplishing this is by listing one's stock on a national securities exchange. This paper examines the relationship of common stock liquidity to both exchange listing and price behavior during major up and down movements in the market. Our conceptual and empirical analyses indicate that liquidity is linked to price behavior; and we suggest that the view held by at least some corporate officers—that exchange listing increases liquidity—may be erroneous. More specifically, it appears that when the amount of firm capitalization is taken into account, exchange listing does not result in greater stock liquidity.     

Derivatives trading,volatility spillover,and regulation: Evidence from the Korean securities markets

Unlike the U.S. and Japanese securities markets, we find new evidence of volatility spillover between index stocks and non‐index stocks following the introductions of index derivatives trading in the Korean securities markets. We further find that the degree of volatility spillover is closely related to the level of market deregulation; significant return volatility spills over from non‐index to index stocks during deregulation period but in the opposite direction during post‐deregulation period. Our empirical results show that the former volatility spillover from non‐index to index stocks can be explained by the transitory contagion effect associated with the 1997 Korean financial crisis and the subsequent market deregulation, whereas the latter volatility spillover from index to non‐index stocks is attributed to the permanent information spillover effect. This latter evidence suggests that the information regarding investors' expectations on the future common market factors is first reflected into the return volatility of index stocks and then transferred to the trading of non‐index stocks against which derivatives are not traded. Our results are robust to different estimation and sample construction methods. © 2009 Wiley Periodicals, Inc. Jrl Fut Mark 29:563–597, 2009     

Non‐Tradable Share Reform,Liquidity, and Stock Returns in China

This article studies the influence of the non‐tradable share reform in the cross‐section of stock returns in China. Prior research has generally neglected this important development in the Chinese stock market. We find that the firm‐specific illiquidity measures that reflect direct transaction costs, price impact and difficulties in trading immediacy, exhibit a positive and significant relationship with stock returns. These effects are particularly pronounced after the non‐tradable share reform. Furthermore, in the post‐reform era, portfolios with high illiquidity (i.e. high relative bid–ask spread, high Amihud illiquidity, low Amivest liquidity ratio) significantly outperform portfolios with low illiquidity, controlling for size, and book‐to‐market effects.     

Has the introduction of S&P 500 ETF options led to improvements in price discovery of SPDRs?

This study sets out to investigate trading in Standard and Poor's Depository Receipt Trust Series I (SPDR) options and the impact on the price‐discovery process of SPDRs. The empirical results reveal a significant rise in liquidity within the SPDR market following the introduction of SPDR options. Furthermore, the results also show that the introduction of SPDR options has led to a significant improvement in the information share of SPDRs, and that the contribution of SPDRs to price discovery has become very close to that of E‐mini index futures. These findings imply that developments in the derivatives market can lead to improvements in market quality, including the level of liquidity and price discovery of the underlying securities. © 2011 Wiley Periodicals, Inc. Jrl Fut Mark 32:683–711, 2012     

Market microstructure effects on volatility at the TAIFEX

This study examines whether changes in the frequency of market clearing or changes in trading hours on competing exchanges that use different auction systems affect the volatility of futures prices. In particular, this study exploits a natural experiment in the frequency of market clearing of stock index futures contracts traded on the Taiwan Futures Exchange (TAIFEX) to assess whether successive increases in the frequency of market clearing are associated with changes in the volatility of futures prices. The impact of changes in the trading hours on the TAIFEX and on the competing Singapore Exchange (SGX) where a similar Taiwanese stock index futures contract trades under a continuous auction market regime is also examined. The evidence for the impact of an increase in the frequency of market clearing on volatility is mixed. However, the introduction of simultaneous opening times for the TAIFEX (which batches orders at the open) and the SGX (which does not) is associated with a significant reduction in the volatility in SGX Taiwanese stock index futures prices. © 2007 Wiley Periodicals, Inc. Jrl Fut Mark 27:1219–1243, 2007     

Electronic Call Market for Commodity Transactions: Design of Computer-Mediated Order Matching System

Commodity exchanges provide potential market structures for electronic trading because commodity products have relatively simple and well-standardized product attributes. Most existing electronic trading systems are introduced for financial exchanges, where qualities of traded products (such as stocks and bonds) are homogeneous, thus taking into account only bid and offer prices for computer-mediated order matching. However, a single commodity market, such as the cotton or grain market, is made up of many heterogeneous goods that are similar to each other but have different product qualities and contract terms. In addition to the price, commodity traders have other pertinent preference ranges over product attributes and delivery conditions. We delineate an electronic call market system for commodity trading, which optimizes the realization of traders' utilities over extended product attributes beyond the price. The electronic call market not only maximizes the total surplus of market participants based on bid and ask prices but also satisfies their qualitative preferences over other attributes, which are difficult to include in the quantitative prices. The trading mechanism of the electronic call market integrates an economic auction model with a social choice model to produce a Pareto-improved transaction. Market simulations are conducted to validate the performance of the proposed electronic call market. The order matching system of the electronic call market is implemented using constraint logic programming.     

Volatility,global information,and market conditions: a study in futures markets

This study examined the behavior of return volatility in relation to the timing of information flow under different market conditions influenced by trading volume and market depth. We emphasized information flow during trading and nontrading periods that may represent domestic and offshore information in the global trading of currencies. Test results show that volatility was negatively related to market depth; that is, deeper markets had relatively less return volatility. Additionally, the effect that market depth had on volatility was superseded by information within trading volume. Test results focusing on the timing of information flow reveal that in low‐volume markets, the volatility of nontrading‐period returns exceeded the volatility of trading‐period returns. However, when trading volume was high, this pattern was reversed and conformed to the observations of earlier articles. Our findings proved to be robust across time, different currency markets, and different measures of return volatility. We also observed a trend toward greater integration between foreign and U.S. financial markets; the U.S. market increasingly emphasized information from nontrading periods to supplement information arriving during trading periods. © 2001 John Wiley & Sons, Inc. Jrl Fut Mark 21:173–196, 2001     

Callable bull/bear contracts,call auction sessions,and price manipulations: Evidence from Hong Kong

Call auction sessions are widely adopted to improve the price discovery process. The suspension of the closing call auction session (CAS) of the Hong Kong Stock Exchange (HKEx) in 2009 and the reintroduction of an enhanced CAS in 2016 provide us a unique experimental environment to assess the effectiveness of the two different CAS models in reducing market manipulation. In examining the probability of mandatory call events (MCEs) of callable bull/bear contracts (CBBCs), we find the enhanced CAS model being more effective in price manipulation reduction. We also find the enhanced CAS reducing price manipulation in the preopening auction session.     

The Market Timing Power of Moving Averages: Evidence from US REITs and REIT Indexes

I present evidence that a moving average (MA) trading strategy dominates buying and holding the underlying asset in a mean‐variance sense using monthly returns of value‐weighted and equal‐weighted US REIT indexes over the period January 1980 until December 2010. The abnormal returns are largely insensitive to the four Carhart factors and produce economically and statistically significant alphas of between 10 and 15% per year after transaction costs. This performance is robust to different lags of the MA and in subperiods while investor sentiment, liquidity risks, business cycles, up and down markets, and the default spread cannot fully account for its performance. The MA strategy works just as well with randomly generated returns and bootstrapped returns. The substantial market timing ability of the MA strategy appears to be the main driver of the abnormal returns. The returns to the MA strategy resemble the returns of an imperfect at‐the‐money protective put strategy relative to the underlying portfolio. The lagged signal to switch has substantial predictive power over the subsequent return of the REIT index. The MA strategy avoids the sharp downturn at the beginning of 2008 and substantially outperforms the cumulative returns of the buy‐and‐hold strategy using all of the 20 REIT indexes. The results from applying the MA strategy with 274 individual REITs largely corroborate the findings for the REIT indexes.     

Liquidity supply and volatility: futures market evidence

This article examines the provision of liquidity in futures markets as price volatility changes. We find that customer trading costs do not increase with volatility. However, for three of the four contracts studied, the nature of liquidity supply changes with volatility. Specifically, for relatively inactive contracts, customers as a group trade more with each other and less with market makers, on higher volatility days. By contrast, for the most active contract, trading between customers and market makers increases with volatility. We also find that market makers' income per contract decreases with volatility for one of the least active contracts in our sample, but is not significantly affected by volatility for the other contracts. These results are consistent with the idea that, for high‐cost, inactive contracts, market makers react to temporary increases in volatility by raising their bid‐ask spreads significantly, and customers provide increased liquidity through standing limit orders. An implication of our results is that electronic systems, where market maker participation is not required, are able to supply adequate liquidity during volatile periods. © 2001 John Wiley & Sons, Inc. Jrl Fut Mark 21:1–17, 2001     

Trader Survival: Evidence from the Energy Futures Markets

This study analyzes the adaptation of traders and the determinants of trader survival during a period of changing market structures. Our unique sample of transactions level data covers the introduction of electronic trading in the NYMEX energy futures market. The results show that most floor traders adapted to the side‐by‐side electronic and open outcry trading, although trader attrition increased and the profitability of surviving traders declined dramatically. It is also found that trading profits, trader experience and sophistication, and dual trading have a positive effect on the probability of trader survival. Scalpers are less likely to exit trading in pure open outcry trading, but are more likely to fail than traders who hold open positions longer in side‐by‐side trading. Finally, traders trading in multiple energy futures markets and those who use both the exchange floor and electronic trading appear to have a survival advantage in side‐by‐side trading. © 2011 Wiley Periodicals, Inc. Jrl Fut Mark 32:809–836, 2012     

The Intraday Pattern of Information Asymmetry,Spread, and Depth: Evidence from the NYSE

Studies suggest that investment flows, liquidity imbalances, and institutional trading may create intraday trading patterns and opportunities for investors to time their trades to reduce transaction costs. Motivated by these studies, we divide each trading day into 13 half‐hour trading intervals and measure information asymmetry from price changes, trade sizes, and trade directions. We find that information asymmetry starts high in the morning, drops continuously until it reaches a midday low during Interval 7, rises to a midday high during Interval 10, and drops continuously after. In contrast, neither the spread nor the depth exhibit similar midday extreme values. Essentially, we identify a 90‐min window in the afternoon when net valuable information arrives to the market in high frequency while liquidity is stable, and that may be an opportunity for some investors to time their trades. In addition, we show that market makers employ dynamic strategies that change the spread, the depth, or both to manage information asymmetry. This is particularly evident during the last three trading intervals, where the significant drop in information asymmetry is countered primarily by a significant increase in the depth while the spread is almost constant.     

Cash trading and index futures price volatility

This study examines the effect of cash market liquidity on the volatility of stock index futures. Two facets of cash market liquidity are considered: (1) the level of liquidity trading proxied by the expected New York Stock Exchange (NYSE) trading volume and (2) the noise composition of trading proxied by the average NYSE trading commission cost. Under the framework of spline–GARCH with a liquidity component, both the quarterly average commission cost and the quarterly expected NYSE volume are negatively associated with the ex ante daily volatility of S&P 500 and NYSE composite index futures. Conversely, liquidity and noise trading in the cash market both dampen futures price volatility, ceteris paribus. This negative association between secular cash trading liquidity and daily futures price volatility is amplified during times of market crisis. These results retain statistical significance and materiality after controlling for bid–ask bounce of futures prices and volume of traded futures contracts. This study establishes empirical evidence to affirm the conventional prediction of a liquidity–volatility relationship: the liquidity effect is secular and persistent across markets. © 2010 Wiley Periodicals, Inc. Jrl Fut Mark 31:465–486, 2011