Quoting Activity and the Cost of Capital

53 Pages Posted: 24 Jul 2017 Last revised: 21 Dec 2018

See all articles by Ioanid Rosu

Ioanid Rosu

HEC Paris - Finance Department

Elvira Sojli

UNSW Business School, School of Banking and Finance

Wing Wah Tham

University of New South Wales (UNSW)

Date Written: December 21, 2018

Abstract

We study how market makers set their quotes in relation to trading, liquidity, and expected returns. In our model, market makers in neglected, difficult-to-understand stocks monitor the market more often, thus increasing their quote-to-trade (QT) ratio. They also monitor more often when their clients are more precisely informed, which reduces mispricing and lowers expected returns. Consistent with our model, large QT ratios are empirically associated with low expected returns, a result driven by quotes, not by trades. Moreover, more market makers are associated with smaller QT ratios, but have no effect on the cost of capital.

Keywords: Quote-to-trade ratio, market making, liquidity, price discovery, monitoring, information acquisition, neglected stocks, inventory, high frequency trading

JEL Classification: G12, G14, D82

Suggested Citation

Rosu, Ioanid and Sojli, Elvira and Tham, Wing Wah, Quoting Activity and the Cost of Capital (December 21, 2018). HEC Paris Research Paper No. FIN-2017-1232; 31st Australasian Finance and Banking Conference 2018. Available at SSRN: https://ssrn.com/abstract=3005928 or http://dx.doi.org/10.2139/ssrn.3005928

Ioanid Rosu (Contact Author)

HEC Paris - Finance Department ( email )

1 rue de la Liberation
Jouy-en-Josas Cedex, 78351
France

Elvira Sojli

UNSW Business School, School of Banking and Finance ( email )

Sydney, NSW 2052
Australia

HOME PAGE: http://sites.google.com/site/esojli/

Wing Wah Tham

University of New South Wales (UNSW)

Kensington
High St
Sydney, NSW 2052
Australia

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