Do Proxies for Informed Trading Measure Informed Trading? Evidence from Illegal Insider Trades

Abstract

This paper exploits hand-collected data on illegal insider trades to provide new evidence of the ability of standard measures of illiquidity to detect informed trading. Controlling for unobserved cross-sectional and time-series variation, sampling bias, and strategic timing of insider trades, I find that when information is short-lived, absolute order imbalance and the autocorrelation of order flows are statistically and economically robust predictors of insider trading. However, when information is long-lasting, insiders strategically time their trades to avoid illiquidity and none of the measures I consider are reliable predictors of insider trading, including bid-ask spreads, Kyle's $\lambda$, and Amihud illiquidity.

Keywords: Insider Trading, Asymmetric Information, Liquidity, Price Impact, Information Networks

JEL Classification: D53, D83, D85, G12, G14, K42