Cross‐Asset Speculation in Stock Markets |
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| Authors: | DAN BERNHARDT BART TAUB |
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| Affiliation: | Bernhardt is with the Departments of Economics and Finance, University of Illinois at Urbana‐Champaign. Taub is with the Department of Economics, University of Illinois at Urbana‐Champaign. We thank Pete Kyle, Anat Admati, Burton Hollifield, Campbell Harvey (the editor), an anonymous referee, and participants in workshops at the University of Illinois and Simon Fraser University for helpful comments. The authors gratefully acknowledge financial support from the National Science Foundation grant SES‐0317700. |
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| Abstract: | In practice, heterogeneously informed speculators combine private information about multiple stocks with information in prices, taking into account how their trades influence the inferences of other speculators via prices. We show how this speculation causes prices to be more correlated than asset fundamentals, raising price volatility. The covariance structure of asset fundamentals drives that of prices, while the covariance structure of liquidity trade drives that of order flows. We characterize how speculator profits vary with the distributions of information and liquidity trade across assets and speculators, and relate the cross‐asset factor structure of order flows to that of returns. |
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