Time and the Price Impact of a Trade

Authors

  • Alfonso Dufour,

  • Robert F. Engle

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    • Alfonso Dufour is from the ISMA Centre, The University of Reading, United Kingdom and Robert F. Engle is from the Department of Economics, University of California, San Diego and the Department of Finance, New York University's Stern School. The authors thank Mark Machina and Graham Elliott for their suggestions. We are particularly grateful to Jeff Russell, who made his Fortran code for the ACD model estimation and simulation available and to the editor and the referee for insightful comments and constructive criticism. Helpful discussion was provided by the participants at the 1997 Conference on Time Series Analysis of High Frequency Financial Data in San Diego and at the CAP Workshop on Mathematical Finance, Columbia University. We are grateful to seminar participants at Cornell, Harvard-MIT Joint Econometrics, University of Chicago, Graduate School of Business, University of Michigan, ESSEC, Universitad Carlos III, Humboldt University, and ISMA Centre at the University of Reading. Needless to say, we remain fully responsible for the content. The authors are grateful to the National Science Foundation for financial support under SBR-9422575 and SBR-97–30062.

Abstract

We use Hasbrouck's (1991) vector autoregressive model for prices and trades to empirically test and assess the role played by the waiting time between consecutive transactions in the process of price formation. We find that as the time duration between transactions decreases, the price impact of trades, the speed of price adjustment to trade-related information, and the positive autocorrelation of signed trades all increase. This suggests that times when markets are most active are times when there is an increased presence of informed traders; we interpret such markets as having reduced liquidity.

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