hollifield-liquid2 - Empirical Analysis of Limit Order...

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Unformatted text preview: Empirical Analysis of Limit Order Markets * Burton Hollifield Robert A. Miller Patrik Sand as April, 2002 Revised: February, 2003 Abstract We provide empirical restrictions of a model of optimal order submissions in a limit order market. A traders optimal order submission in our model depends on the traders valuation for the asset and the trade offs between order prices, execution probabilities and picking off risks. The optimal order submission strategy is a monotone function of a traders valuation for the asset. We use the monotonicity restriction to test if the traders follow the optimal order submission strategy in our sample, using the order prices, execution probabilities and picking off risks of the orders chosen by the traders in the sample. We compute a semiparametric test using a sample of order submissions from the Stockholm Stock Exchange. We do not reject the monotonicity restriction for buy orders or sell orders separately, but do reject the monotonicity restriction when we combine buy and sell orders. The expected payoffs from submitting limit orders away from the quotes are too low relative to the expected payoffs from submitting limit orders close to the quotes to rationalize all the observed order submissions in our sample. Keywords : limit orders; market orders; order submission strategy; semiparametric estimation JEL Codes: G10, C14, C35, C52 * We would like to thank Aydogan Alti, Dan Bernhardt, Bruno Biais, David Brown, George Deltas, Zvi Eckstein, Ron Goettler, Pierre Hillion, Ananth Madhavan, Jonas Niemeyer, Christine Parlour, John Rust, Duane Seppi, and participants at many different workshops for useful comments. We also thank the Stockholm Stock Exchange, Stock- holms Fondb ors Jubileumsfond, and Dextel Findata AB for providing the sample. Hollifield gratefully acknowledges financial support from the Social Sciences Research Council of Canada and the Vancouver Stock Exchange. Part of this research was conducted while Hollifield was with the Faculty of Commerce at University of British Columbia. Sand as gratefully acknowledges financial support from the Alfred P. Sloan and the W.L. Mellon Foundations. Corresponding author: Graduate School of Industrial Administration, Carnegie Mellon University, Pittsburgh, PA, 15213, e-mail: burtonh@andrew.cmu.edu Graduate School of Industrial Administration, Carnegie Mellon University The Wharton School, University of Pennsylvania, and CEPR 1 Introduction Many financial assets trade in limit order markets. In a limit order market, traders can submit market orders and limit orders. A market order fills immediately at the most attractive price posted by previously submitted limit orders in the limit order book. A limit order specifies a particular price, but does not guarantee that the order will be filled. Unfilled limit orders enter the limit order book, where they are stored until they are canceled or filled by market orders....
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This note was uploaded on 12/08/2011 for the course CIS 625 taught by Professor Michaelkearns during the Spring '12 term at Pennsylvania State University, University Park.

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hollifield-liquid2 - Empirical Analysis of Limit Order...

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