An Analysis of Changes in Specialist Inventories and Quotations

Madhavan, Ananth; Smidt, Seymour

doi:10.2307/2329061

Cited by 207 publications

(132 citation statements)

References 8 publications

(9 reference statements)

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“…Consistent with the hypothesis 2, there is a significant negative relation between locals liquidity and position-taking profits across all contracts on the trading floor. This supports the conjecture made by Madhavan and Smidt (1993), that market makers are active traders when they possess information relating to impending order flow. Locals appear willing to sacrifice their liquidity profits in order to profit from favourable price movements.…”

Section: Regression Resultssupporting

confidence: 88%

“…Consistent with this, Madhavan and Smidt (1993) suggest that NYSE specialists profit in the short-term from information about impending order imbalances, attained through their central position on the trading floor. 4 If a local does not hold a position, then they will not be able to derive a return on their information.…”

Section: Market Conditionssupporting

confidence: 53%

“…Madhavan and Smidt (1993) suggest that market makers may actively invest when they possess information relating to impending order flow. This implies that market makers are likely to derive positive position-taking profits when they actively build positions (and thus earn negative liquidity profits).…”

Section: Local Trader Liquidity Profitsmentioning

confidence: 99%

“…Madhavan and Smidt (1993) present a theoretical model in which they assume that the market maker is at times an "active" investor, who uses information in orderflow to adjust prices and inventory in anticipation of favourable price movements. Similarly, Hasbrouck and Sofianos (1993) provide evidence that NYSE market makers generate profits over and above liquidity profits.…”

Section: Introductionmentioning

confidence: 99%

See 3 more Smart Citations

Local trader profitability in futures markets: Liquidity and position taking profits

Frino

Jarnecic

Feletto³

2009

Journal of Futures Markets

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This study examines the profitability of local traders on floor-traded futures markets. Using unique data from the period of floor trading on the Sydney Futures Exchange, local income is decomposed into liquidity and position-taking profit components. Locals on the trading floor are found to make significant positiontaking profits. Moreover, the ability of locals on the floor to derive position-taking profits is positively related to order-flow related information, and negatively related to the presence of exogenous information, local liquidity profits and the length of a locals inventory cycle. Accordingly, this paper characterizes locals as active informed traders.A number of prior studies have analyzed data for US futures markets and quantify total profits earned by local traders (e.g. Silber, 1984 has trade data for a single local trader). Further, some analysis of the profitability of local traders in US markets has taken place. For example, Kuserk and Locke (1996) compare profits of locals on days in which futures prices hit price limits to other days, while Fishman and Longstaff (1992) compare the profits of locals to other classes of trader. While most floor traded exchanges around the world and academic papers examining locals suggest that locals provide liquidity (see for example Kuserk, Locke, & Sarkar, 2000), there is no evidence that locals serve this function. Indeed, there are suggestions in the literature that they may have some sort of information advantage which allows them to predict and trade on order-flow related information (e.g. Silber, 1984). The profits earned by locals represent their reward for providing liquidity and/or trading on orderflow related information. Hence an analysis of the profits of locals can provide evidence on their economic role.This study decomposes the profits of local traders by comparing prices at which they trade to standing quoted bid and offer prices in a manner similar to Hasbrouck and Sofianos (1993). While data detailing the identity of local traders in US markets exists, these exchanges do not collect quote information (see Smith and Whaley, 1990). Unlike US futures markets, during the period of floor trading the Sydney Futures Exchange collected quote information as well as transaction data identifying the parties involved in trades for settlement purposes. This provides a unique opportunity for decomposing the profits of local traders into liquidity and profit-taking trades.The remainder of this study is organised as follows. Section 2 contains the literature review and hypothesis development. Section 3 outlines the data and methodology employed. Section 4 describes the results attained, while Section 5 contains conclusions and directions for future research.A dominant theme in the theoretical market maker and asymmetric information literature Glosten and Milgrom (1985), Admati and Pfleiderer (1988) is that market makers trade with two main types of counter-parties -informed and liquidity traders. This literature typically asserts that while market makers...

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Section: Regression Resultssupporting

confidence: 88%

Section: Market Conditionssupporting

confidence: 53%

Section: Local Trader Liquidity Profitsmentioning

confidence: 99%

Section: Introductionmentioning

confidence: 99%

See 2 more Smart Citations

Local trader profitability in futures markets: Liquidity and position taking profits

Frino

Jarnecic

Feletto³

2009

Journal of Futures Markets

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“…We find that monthly returns, both in the cross-section and time-series, bear a stronger relation to lagged returns than to lagged order flow innovations. This indicates that inventory effects do not appear to completely account for the return reversal at the monthly horizon (though other authors, such as Madhavan and Smidt (1993) do find some evidence of inventory-related phenomena at daily horizons). We also find an interesting stylized fact: that order flow innovations at horizons of two to three months are negatively related to current returns in the cross-section even after controlling for lagged returns.…”

Section: Resultsmentioning

confidence: 84%

Distinguishing Between Rationales for Short-Horizon Predictability of Stock Returns

Subrahmanyam¹

2005

Financial Review

114

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In this paper, we shed light on short-horizon return reversals. We show theoretically that a risk-based rationale for reversals implies a relation between returns and past order flow, whereas a reversion in beliefs of biased agents does not do so. The empirical results indicate that returns are more strongly related to own-return lags than to lagged order imbalances. Thus, the evidence suggests that monthly reversals are not completely captured by inventory effects and may be driven, in part, by belief reversion. We do find that returns are cross-sectionally related to lagged imbalance innovations at horizons longer than a month.

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Market microstructure of FT-SE 100 index futures: An intraday empirical analysis

Tse

1999

J. Fut. Mark.

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This article examines the market microstructure of the FT‐SE Index futures market by analyzing the intraday patterns of bid‐ask spreads and trading activity. The patterns are remarkably different from those of stock and options markets because of the futures market's open outcry system with frenzied scalpers/short‐term marketmakers. Spreads are stable over the day, but decline sharply at the close and increase when U.S. macroeconomic news is distributed. Traders actively trade at the open with narrow spreads and large trade sizes. Volatility and volume have higher values at the open and close and when U.S. news is released. The overall results suggest that information asymmetry in the index futures market is insignificant, and traders find it easy to control inventory. The results are also broadly consistent with the Grossman and Miller (1988) model that describes liquidity as the price of transaction demand for immediacy. © 1999 John Wiley & Sons, Inc. Jrl Fut Mark 19: 31–58, 1999

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An Analysis of Changes in Specialist Inventories and Quotations

Cited by 207 publications

References 8 publications

Local trader profitability in futures markets: Liquidity and position taking profits

Local trader profitability in futures markets: Liquidity and position taking profits

Distinguishing Between Rationales for Short-Horizon Predictability of Stock Returns

Market microstructure of FT-SE 100 index futures: An intraday empirical analysis

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