Trading Frequency and Information Efficiency: Theory and Evidence from US and Chinese Markets

58 Pages Posted: 2 Nov 2014

See all articles by Feng Gao

Feng Gao

Tsinghua University

Zoran Ivkovich

Michigan State University, Department of Finance

Sophia Zhengzi Li

Rutgers, The State University of New Jersey - Rutgers Business School at Newark & New Brunswick

Date Written: October 31, 2014

Abstract

This paper analyzes the relation between price informativeness and trading frequency. We develop a sequential trading model to capture the tradeoff between trading more frequently and acquiring more information. The key component of the model is the cost of information collection and processing. When information flow comes sequentially, traders must give up some early trading opportunities if they want to acquire more information. We show that more trading opportunities may induce informed traders to participate in more trades before obtaining more accurate information. Consequently, when informed traders trade more frequently, less information is impounded into prices. Empirical tests using stocks listed on NYSE, as well as the Shanghai Stock Exchange and the Shenzhen Stock Exchange, support the two testable implications of our model — a negative relation between the quality of the information environment and informed traders’ trading frequency, and a negative relation between informed traders’ trading frequency and price informativeness. One implication of our model and empirical results is that a decrease in excessive trading activities may help shift market participants’ attention from short-term price movements to companies’ fundamental information so that the information could be more efficiently impounded into prices, which, in turn, may further lead toward better resource allocation in financial markets.

Keywords: Information acquisition, Trading frequency, Price efficiency

JEL Classification: G14

Suggested Citation

Gao, Feng and Ivkovich, Zoran and Li, Sophia Zhengzi, Trading Frequency and Information Efficiency: Theory and Evidence from US and Chinese Markets (October 31, 2014). Available at SSRN: https://ssrn.com/abstract=2517801 or http://dx.doi.org/10.2139/ssrn.2517801

Feng Gao

Tsinghua University ( email )

Beijing, 100084
China

Zoran Ivkovich (Contact Author)

Michigan State University, Department of Finance ( email )

315 Eppley Center
East Lansing, MI 48824-1122
United States

Sophia Zhengzi Li

Rutgers, The State University of New Jersey - Rutgers Business School at Newark & New Brunswick

100 Rockafeller Rd
Piscataway, NJ 08854
United States

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