Strategic trading behavior and price distortion in a manipulated market: anatomy of a squeeze

Merrick, John J.; Naik, Narayan Y.; Yadav, Pradeep K.

doi:10.1016/j.jfineco.2004.10.004

Cited by 106 publications

(38 citation statements)

References 65 publications

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“…While it is true that concerns about delivery fails are justified in the context of fair and orderly markets, it is also true that Evans, et al (2009) show that "the alternative to fail is valuable and important to the pricing and trading of options"; and our results additionally and importantly show that the alternative to fail has a beneficial impact on liquidity and pricing efficiency of equity markets as well. We also know from Merrick, et al (2005) that the alternative to fail is an important release valve for settlement-related pressures and manipulative distortions.…”

Section: Introductionmentioning

confidence: 99%

Fails-to-deliver, short selling, and market quality

Fotak

Raman

Yadav

2014

Journal of Financial Economics

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We investigate the collective net impact on market liquidity and pricing efficiency of equity trades that result in fails to deliver ("FTDs"). Given the nature of the US electronic trade settlement system for stocks, such "FTD trades" should originate almost exclusively from short sales, and we confirm this empirically on the basis of a natural experiment arising from a regulatory event. For a sample of 1,492 NYSE common stocks over a 42-month period from 2005 to 2008, we find that such trades lead to the same beneficial impact on liquidity and pricing efficiency as short sales that result in timely delivery. We do not find evidence that such trades are causally related to subsequent price declines or distortions, or to the failure of financial firms during the 2008 financial crisis.

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Section: Introductionmentioning

confidence: 99%

Fails-to-deliver, short selling, and market quality

Fotak

Raman

Yadav

2014

Journal of Financial Economics

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“…The susceptibility of the futures market to short squeezes, or squeeze potential, can be assessed by computing the difference between the futures equivalent prices of the first and second CTDs (see Merrick et al 2005). This difference can be interpreted as the loss incurred by the short trader in the event that the CTD is unavailable for delivery.…”

Section: Ctd Forecast a Bond's Futures Equivalent Pricementioning

confidence: 99%

History Is Repeating Itself: Get Ready for a Long Dry Spell

Ben-AbdallahRamzi

BretonMichèle

2017

Financial Analysts Journal

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Ramzi Ben-Abdallah is associate professor of finance at UQAM School of Management, Montréal. Michèle Breton is professor of management science at HEC Montréal.T he US Treasury bond futures contract, 1 one of the world's most actively traded futures contracts, is used extensively to hedge long-term interest rate risk. This contract calls for the delivery of $100,000 of a long-term government bond. The notional underlying security is currently a T-bond with a maturity of 15-25 years and a coupon rate of 6%. Because the notional bond is hypothetical and not necessarily traded in the marketplace, the exchange offers short traders the option to choose which issue to deliver among a set of deliverable bonds (the delivery basket). A system of conversion factors is used to adjust for the coupon rate of all the deliverable bonds with respect to the hypothetical reference bond. Because of the imperfection of the conversion factor system, which is based on bond characteristics and does not account for changes in the yield curve, not all eligible grades are equal for delivery to US T-bond futures, and short traders generally find that some issues are more profitable to deliver than others. The security that is the most advantageous for the short trader to deliver is called the "cheapest to deliver" (CTD). 2 A bond's CTD status depends on not only its characteristics (coupon rate and term to maturity) but also market conditions-namely, the market price of the various grades, which is directly related to the yield curve of Treasury securities. Therefore, CTD status is not attached to a particular bond; it varies from contract to contract and even from day to day during the trading period of a particular contract. In the US T-bond futures market, short traders are allowed to deliver on any business day in a delivery month, and thus a variety of bonds may be delivered to T-bond futures contracts. The possibility of delivering any bond within a large delivery basket at any time during the month is meant to alleviate the demand for a single issue and to avoid congestion, or market squeezes.In this article, we recall an episode in the history of US T-bond futures when the concurrence of several conditions gave rise to a progressive entrenchment of the CTD bond over December 1994-December 1999. This entrenchment of the CTD bond had negative repercussions on the futures and bond markets. An analysis of this episode should be enlightening given that a similar uncommon conjunction of conditionsThe recent disappearance of a five-year maturity gap from the set of bonds deliverable to the Chicago Board of Trade Treasury bond futures has resulted in a distinctive configuration, whereby a single T-bond will have the shortest remaining maturity in the delivery basket of bonds for a five-year period. This situation would be inconsequential were three other conditions not simultaneously present, ensuring that this single bond will probably be the cheapestto-deliver bond over the next five years. We show that a similar alignment of conditions ...

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“…As described by Aggarwal and Wu (2006), manipulation can occur in a variety of ways such as: (1) actions taken by insiders that influence stock prices (e.g., accounting and earnings manipulations) and (2) the release of false information or rumors in Internet chat rooms. Aggarwal and Wu (2006) and Merrick et al (2005) provide interesting descriptions of the anatomy of manipulation. Jiang et al (2005) and Mahoney (1999) examined stock pools of 1920s in the U.S. Stock pools consisted of agreements, often written, among a group of traders to delegate authority to a single manager to trade in a specific stock for a specific period of time and then to share the resulting profits or losses (Mahoney 199).…”

Section: Literature Reviewmentioning

confidence: 99%