New Economics Papers
on Market Microstructure
Issue of 2008‒08‒31
two papers chosen by
Thanos Verousis

  1. Modeling Trade Direction By Rosenthal, Dale W.R.
  2. It’s SHO Time! Short-Sale Price-Tests and Market Quality By Diether, Karl; Lee, Kuan Hui; Werner, Ingrid M.

  1. By: Rosenthal, Dale W.R.
    Abstract: The problem of classifying trades as buys or sells is examined. I propose estimated quotes for midpoint and bid/ask tests and a modeling approach to classification. Prevailing quotes are estimated using flexible approximations to the distribution for delays of quotes relative to trade timestamps. Classification is done by a generalized linear model which includes improved versions of midpoint, tick, and bid/ask tests. The model also considers the relative strengths of these tests, can account for market microstructure peculiarities, and allows for autocorrelations and cross-correlations in trade direction. The correlation modeling corrects for pseudoreplication, yielding more accurate standard errors and fixed effect estimates. Further, the model estimates probabilities of correct classification. The model is compared to various trade classification methods using a sample of 2,836 domestic US stocks from an unexplored, recent, and readily-available dataset. Out of sample, modeled classifications are 1-2% more accurate overall than current methods; this improvement is consistent across dates, sectors, and locations relative to the inside quote. For Nasdaq and NYSE stocks, 1% and 1.3% of the improvement comes from using relative strengths of the various tests; 0.9% and 0.7% of the improvement, respectively, comes from using some form of estimated quotes. For AMEX stocks, a 0.4% improvement is attributed to using a lagged version of the bid/ask test. I also find indications of short- and ultra-short-term alpha.
    Keywords: market microstructure; trade classification; generalized linear mixed model; ultra-high-frequency data analysis
    JEL: G14 C53 D82
    Date: 2008–08
  2. By: Diether, Karl (Ohio State U); Lee, Kuan Hui (Rutgers U); Werner, Ingrid M. (Ohio State U)
    Abstract: We examine the effects of the SEC mandated temporary suspension of short-sale price-tests for a set of Pilot securities. While short-selling activity increased both for NYSE and NASDAQ-listed Pilot stocks, returns and volatility at the daily level are unaffected. NYSE-listed Pilot stocks experience more symmetric trading patterns and a slight increase in spreads and intraday volatility after the suspension while there is a smaller effect on market quality for NASDAQ listed Pilot stocks. The results suggest that the effect of the price-tests on market quality can largely be attributed to the distortions in order flow created by the price-tests in the first place. Therefore, we believe that the price-tests can safely be permanently suspended.
    Date: 2007–08

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