Jumps in Equilibrium Prices and Market Microstructure Noise
44 Pages Posted: 19 Mar 2012
Date Written: February 23, 2012
Abstract
Asset prices observed in financial markets combine equilibrium prices and market microstructure noise. In this paper, we study how to tell apart large shifts in equilibrium prices from noise using high frequency data. We propose a new nonparametric test which allows us to asymptotically remove the noise from observable price data and to discover jumps in fundamental asset values. We provide its asymptotic distribution to decide when such jumps occur. In finite samples, our test offers reasonable power for distinguishing between noise and jumps. Empirical evidence indicates that it is necessary to incorporate the presence of jumps in equilibrium prices.
Keywords: jumps, noise, nonparametric tests, high frequency data
JEL Classification: C12, C14, G14
Suggested Citation: Suggested Citation
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