Empirical Estimates of Effect of Price Limits on Limit-Hitting Days

Abstract:     
In this study, we demonstrate how price limits can affect a return series on limit-hitting days. Our identification of two effects - a ceiling effect and a cooling or heating effect (C-H effect) is based on a resampling method suggested by Wei and Chiang (1999). We estimate the C-H effect by assuming that the return series will have a mixture normal density instead of a simple normal density. We apply our model to five randomly selected Taiwanese stocks as well as all the stocks that are continuously traded in our sample. The simple normal density is soundedly rejected and it would generally lead one to conclude that price limits can "cool off" stock prices. On the other hand, if normal mixture density is used, one would generally conclude that price limits will have no effect on the variance of stock returns.

Number of Pages in PDF File: 24

Keywords: Price limits, mixture density

JEL Classification: G15

working papers series