Penny Wise, Dollar Foolish: Buy-Sell Imbalances On and Around Round Numbers
Hong Kong University of Science & Technology - HKUST School of Business and Management
Craig W. Holden
Indiana University - Kelley School of Business - Department of Finance
Stacey E. Jacobsen
Southern Methodist University (SMU) - Edwin L. Cox School of Business - Department of Finance
March 30, 2011
AFA 2011 Denver Meetings Paper
Management Science, (special issue on Behavioral Economics and Finance), Forthcoming
This paper provides evidence that stock traders focus on round numbers as cognitive reference points for value. Using a random sample of more than 100 million stock transactions, we find excess buying (selling) by liquidity demanders at all price points one penny below (above) round numbers. Further, the size of the buy-sell imbalance is monotonic in the roundness of the adjacent round number (i.e., largest adjacent to integers, second-largest adjacent to half-dollars, etc.). Conditioning on the price path, we find much stronger excess buying (selling) by liquidity demanders when the ask falls (bid rises) to reach the integer than when it crosses the integer. We discuss and test three explanations for these results. Finally, 24-hour returns also vary by price point and buy-sell imbalances are a major determinant of that variation across price points. Buying (selling) by liquidity demanders below (above) round numbers yield losses approaching $1 billion per year.
Number of Pages in PDF File: 45
Keywords: Left-digit effect, nine-ending prices, round numbers, trading strategies, clustering
JEL Classification: C15, G12, G20
Date posted: March 15, 2010 ; Last revised: May 12, 2014
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