Publications

We study a model of strategic informed traders submitting market orders together with noise traders where an uncertainty over the overall participation of strategic and noise traders leads to an uncertainty over market depth. Our analysis compares the main case with such uncertainty with the benchmark case without it. When liquidity is driven by informed trading (noise trading), expected trading volume is higher (lower) and expected price informativeness is lower (higher) in the main case compared with the benchmark case. We also analyze the effects of random variation of the aggregate participation, which confound the effects of market expansion and thereby possibly lead to higher expected trading volume and lower expected price informativeness following market expansion. Further, these results can explain a negative volume-volatility relation and a negative impact of transparency reforms on price informativeness.

Keywords: Market depth, liquidity, trading volume, price informativeness

JEL codes: D82; G14

This paper analyzes a model of multiple overconfident traders submitting market orders where traders’ private information is subject to correlated errors, as well as its extension to endogenous information. We consider two standard types of overconfidence: overconfidence in own signals and underconfidence in others’ signals. The analyses on the effects of overconfidence on traders’ behavior and the equilibrium price suggest that these effects are richer than our typical understanding of overconfidence focusing on its positive effect on trading volume as follows: First, trading volume may increase or decrease with overconfidence depending on its type. Second, these different types of overconfidence may differ radically on the patterns of trading volume and price informativeness with respect to the number of traders. Third, overconfidence can cause equilibrium multiplicity in information acquisition.

JEL Classification: G11, G14, G4
Keywords: Overconfidence; Disagreement; Strategic trading; Information aggregation; Efficient market hypothesis