39 Pages Posted: 30 Apr 2016 Last revised: 22 Nov 2016
Date Written: November 21, 2016
We establish the importance of relative minimum price increments for price discovery in the context of a single asset trading at diverse venues. Our model relates relative spreads to directed information flows and begets a set of testable implications. Although conventional wisdom dictates that futures prices lead equities, our model predicts the opposite should be true when particular relative price conditions hold for the bids and offers of each asset. We develop an empirical measure of price discovery which is suited to asynchronous, high-frequency financial data and test the model predictions. Empirical evidence strongly supports the relative spread mechanism.
Keywords: Market microstructure, market design, high-frequency trading
JEL Classification: G12, G14
Suggested Citation: Suggested Citation
Aldrich, Eric M. and Lee, Seung, Relative Spread and Price Discovery (November 21, 2016). Available at SSRN: https://ssrn.com/abstract=2772142