Lack of Anonymity and the Inference from Order Flow

59 Pages Posted: 28 Jan 2010 Last revised: 17 Oct 2011

Juhani T. Linnainmaa

USC Marshall School of Business; National Bureau of Economic Research (NBER)

Gideon Saar

Cornell University - Samuel Curtis Johnson Graduate School of Management

Date Written: October 17, 2011

Abstract

This paper investigates the information content of signals about the identity of investors and whether they affect price formation. We use a dataset from Finland that combines information about the identity of investors with complete order flow records. While we document that investors use multiple brokers, our study demonstrates that broker identity can nonetheless be used as a powerful signal about the identity of investors who initiate trades. This finding testifies to the existence of frictions in the economic environment that prevent investors from completely eliminating the information content of broker ID using mixed strategies. We show that the broker ID signal is important enough to affect prices: The permanent price impact of orders coming from different brokers fits the information profile of the investors associated with these brokers. Our results suggest that the market correctly processes the signal embedded in broker identity, and liquidity improvements documented in the literature when exchanges adopt a more anonymous market structure could arise because prices adjust less efficiently to order flow information when the degree of anonymity increases.

Suggested Citation

Linnainmaa, Juhani T. and Saar, Gideon, Lack of Anonymity and the Inference from Order Flow (October 17, 2011). CRSP Working Paper; Johnson School Research Paper Series No. 02-2010; Chicago Booth Research Paper No. 10-03; EFA 2011 Stockholm Meetings Paper. Available at SSRN: https://ssrn.com/abstract=1543298 or http://dx.doi.org/10.2139/ssrn.1543298

Juhani T. Linnainmaa (Contact Author)

USC Marshall School of Business ( email )

Marshall School of Business
Los Angeles, CA 90089
United States

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Gideon Saar

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

431 Sage Hall
Ithaca, NY 14853
United States
607-255-7484 (Phone)
607-255-5993 (Fax)

HOME PAGE: https://www.johnson.cornell.edu/Faculty-And-Research/Profile?id=gs25

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