On the Importance of Timing Specifications in Market Microstructure Research

29 Pages Posted: 9 May 2006

See all articles by Thomas Henker

Thomas Henker

Bond University

Jian-Xin Wang

University of Technology Sydney; Financial Research Network (FIRN)

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Abstract

This paper highlights the importance of timing specifications in empirical market microstructure studies. Small changes in the data matching process and the timing specification of economic variables can significantly alter the outcomes of empirical research. Using the methodology developed by Lee and Ready (1991), we show that their "5-second rule" is not appropriate for matching quotes with transactions for NYSE stocks in the TAQ data set, and the prevailing quotes are the ones immediately before the trades. We demonstrate the significance of the timing specifications of economic variables using the Huang and Stoll (1997) spread decomposition model. Seemingly minor variations from the theoretical model result in severe biases in the estimated parameters. Correcting the timing errors provide much more realistic spread component estimates than those achieved in the literature.

Keywords: microstructure, timing specification, quotes, trades, spread components, asymmetric information

JEL Classification: G12, G14

Suggested Citation

Henker, Thomas and Wang, Jian-Xin, On the Importance of Timing Specifications in Market Microstructure Research. Journal of Financial Markets, Forthcoming. Available at SSRN: https://ssrn.com/abstract=900261

Thomas Henker

Bond University ( email )

Gold Coast, QLD 4229
Australia
+61 7 5595-1561 (Phone)

Jian-Xin Wang (Contact Author)

University of Technology Sydney ( email )

UTS Business School
Finance Decipline
Sydney, NSW
Australia

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

HOME PAGE: http://www.firn.org.au

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