Insider Trading, Stochastic Liquidity and Equilibrium Prices

51 Pages Posted: 17 Mar 2012 Last revised: 24 Feb 2016

See all articles by Pierre Collin-Dufresne

Pierre Collin-Dufresne

Ecole Polytechnique Fédérale de Lausanne; Swiss Finance Institute; National Bureau of Economic Research (NBER)

Vyacheslav Fos

Boston College - Department of Finance; European Corporate Governance Institute (ECGI); Centre for Economic Policy Research (CEPR)

Multiple version iconThere are 3 versions of this paper

Date Written: January 26, 2016

Abstract

We extend Kyle's (1985) model of insider trading to the case where noise trading volatility follows a general stochastic process. We determine conditions under which, in equilibrium, price impact and price volatility are both stochastic, driven by shocks to uninformed volume even though the fundamental value is constant. The volatility of price volatility appears 'excessive' because insiders choose to trade more aggressively (and thus more information is revealed) when uninformed volume is higher and price impact is lower. This generates a positive relation between price volatility and trading volume giving rise to an endogenous subordinate stochastic process for prices.

Keywords: Kyle model, insider trading, asymmetric information, liquidity, price impact, market depth, stochastic volatility, volume, subordinate process, execution costs, continuous time

JEL Classification: G14

Suggested Citation

Collin-Dufresne, Pierre and Fos, Vyacheslav, Insider Trading, Stochastic Liquidity and Equilibrium Prices (January 26, 2016). Econometrica, Forthcoming. Available at SSRN: https://ssrn.com/abstract=2023675 or http://dx.doi.org/10.2139/ssrn.2023675

Pierre Collin-Dufresne

Ecole Polytechnique Fédérale de Lausanne ( email )

Quartier UNIL-Dorigny, Bâtiment Extranef, # 211
40, Bd du Pont-d'Arve
CH-1015 Lausanne, CH-6900
Switzerland

Swiss Finance Institute

c/o University of Geneva
40, Bd du Pont-d'Arve
CH-1211 Geneva 4
Switzerland

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Vyacheslav Fos (Contact Author)

Boston College - Department of Finance ( email )

Carroll School of Management
140 Commonwealth Avenue
Chestnut Hill, MA 02467-3808
United States

European Corporate Governance Institute (ECGI) ( email )

c/o ECARES ULB CP 114
B-1050 Brussels
Belgium

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

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