Private Information and Trade Timing

Abstract

This paper investigates the Bayesian decision-theoretic foundations of the Wall Street adage that timing is everything. One might think that a small risk-neutral trader wishes to act immediately upon any private information he possesses. By focusing on the behavior of returns rather than prices, and assuming (as per usual) that private and public information is conditionally independent, I challenge this conventional wisdom. I begin with a counterintuitive finding that trade timing doesn't matter for an Arrow security, as one?s expected return per dollar invested is a martingale. This timing irrelevance discovery motivates an analysis of general compound securities, where timing is in general moot. I find that natural monotone likelihood ratio assumptions on both private and public information restore the conventional wisdom that one should trade without haste.

JEL Classification: G12, G14, D81