Are Transactions and Market Orders More Important than Limit Orders in the Quote Updating Process?

Rodney L. White Center Working Paper No. 16-98

Posted: 10 Aug 1998

See all articles by Hong Liu

Hong Liu

Washington University in St. Louis - Olin Business School; Fudan University - China Institute of Economics and Finance

Ron Kaniel

University of Rochester - Simon Business School; CEPR

Abstract

Transactions, market orders and limit orders are three major factors which affect a specialist's information set and her inventory position. In modeling a specialist's quote updating process, before any exclusion of any of these factors, one should first address the fundamental question of their relative importance in this process. This question, however, has received little attention both in the theoretical and empirical microstructure literature. Using a simple nonparametric test we investigate the relative importance of these three factors. We demonstrate that both market orders and transactions affect the quote updating process significantly more than limit orders, and that transactions affect it more than market orders. These results also hold after controlling for transaction and order size. We demonstrate that the importance of market orders relative to limit orders is due to their potential impact on a specialist's inventory position. In fact, after controlling for the specialist's inventory risk exposure, on average, limit orders convey more information about the value of the underlying security.

JEL Classification: G12, G14

Suggested Citation

Liu, Hong and Kaniel, Ron, Are Transactions and Market Orders More Important than Limit Orders in the Quote Updating Process?. Rodney L. White Center Working Paper No. 16-98. Available at SSRN: https://ssrn.com/abstract=106068

Hong Liu

Washington University in St. Louis - Olin Business School ( email )

One Brookings Drive
Campus Box 1133
St. Louis, MO 63130-4899
United States
314-935-5883 (Phone)

Fudan University - China Institute of Economics and Finance ( email )

China

Ron Kaniel (Contact Author)

University of Rochester - Simon Business School ( email )

Rochester, NY 14627
United States

HOME PAGE: http://rkaniel.simon.rochester.edu

CEPR ( email )

London
United Kingdom

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