Price discovery in floor and screen trading systems

Abstract

Standard-Nutzungsbedingungen:Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden.Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen.Sofern die Verfasser die Dokumente unter Open-Content-Lizenzen (insbesondere CC-Lizenzen) zur Verfügung gestellt haben sollten, gelten abweichend von diesen Nutzungsbedingungen die in der dort genannten Lizenz gewährten Nutzungsrechte. Abstract: We analyze price discovery in floor-based and electronic exchanges using data from the German stock market. We find that both markets contribute to price discovery. There is bidirectional Granger causality, and prices from both markets adjust to deviations from the long-run equilibrium. We use two different measures of the contributions to price discovery, the information share (Hasbrouck 1995) and the weights with which the series enter the common long memory component as defined by Gonzalo / Granger (1995). The contributions of the two trading systems to the process of price discovery are almost equal when transaction prices are used for the estimation. Models based on quote midpoints indicate that the electronic trading system has a larger share in the price discovery process. A cross-sectional analysis reveals that the contributions to price discovery are positively related to the market shares of the trading systems. Terms of use: Documents in JEL classification: G 10Keywords: Floor versus screen trading, Error correction, Information shares, Common long memory components * I thank Deutsche Börse AG for providing the data. Financial support from the TMR grant "Financial Market Efficiency and Economic Efficiency" is gratefully acknowledged. Part of this research was undertaken while I was visiting Groupe HEC, Jouy-en-Josas. I thank Jesus Gonzalo and seminar participants at the universities of Cologne and Frankfurt for valuable comments. ** Erik Theissen, University of Bonn, BWL 1, Adenauerallee 24-42, 53113 Bonn, Germany; Email: theissen@uni-bonn.de. Price Discovery in Floor and Screen Trading SystemsAbstract: We analyze price discovery in floor-based and electronic exchanges using data from the German stock market. We find that both markets contribute to price discovery. There is bidirectional Granger causality, and prices from both markets adjust to deviations from the long-run equilibrium. We use two different measures of the contributions to price discovery, the information share (Hasbrouck 1995) and the weights with which the series enter the common long memory component as defined by Gonzalo / Granger (1995). The contributions of the two trading systems to the process of price discovery are almost equal when transaction prices are used for the estimation. Models based on quote midpoints indicate that the electronic trading system has a larger share in the price discovery process. A cross-sectional analysis reveals that the contribution...

Price discovery in spot and futures markets: a reconsideration

“…14 It has first been proposed by Schwarz and Szacmary (1994) on intuitive grounds. A formal justification, based on the work of Gonzalo and Granger (1995), has been 14 provided by Booth et al (2002), deB Harris et al (2002 and Theissen (2002). The common factor weights are easily obtained from the coefficients on the error correction terms in (1):…”

Long-Range Dependence, Fractal Processes, and Intra-Daily Data

“…The electronic exchanges they find lose information that can be mirrored by a face-to-face exchange setting. Based on the co-existence of the floor and electronic trading system in the German stock market, Theissen (2002) argues that when employing intra-daily data, both systems contribute to the price discovery process almost equally. Based on testing whether the upstairs intermediation can lower adverse selection cost, Smith et al (2001) report that the upstairs market is complementary in supplying liquidity.…”

Microstructure Characteristics of U.S. Futures Markets

“…Finally, Theissen (2002) finds that the contribution made to price discovery by the trading system employed was positively related to the size of the market share. In conclusion, different studies document different variables as the main determinant of price discovery.…”

“…However, ETF prices do include tracking error (Shin and Soydemir, 2010;Petajisto, 2011). Previous studies that explore the determinants of the price discovery process document different variables as significant factors. For example, Theissen (2002) employs German DAX equity index futures and spot data to show that trading volume positively affects price leadership of a market. Alternatively, Martens (1998) Both of these results contradict the transactions costs hypothesis which relies on the actual costs of transactions.…”

“…They all find that price discovery improves with a reduction in the tick size, which reduces transactions costs. Regarding bid-ask spreads, Theissen (2002) finds that the size of the relative bidask spread across different markets only weakly explains the contribution to price discovery, whereas Wang and Ates (2005) show that using the ratio of spreads with currency futures provides a much stronger evidence of spreads affecting price discovery.…”