Location Matters: An Examination of Trading Profits

The electronic trading system Xetra of the German Security Exchange provides a unique data source on the equity trades of 756 professional traders located in 23 different cities and eight European countries. We explore informational asymmetries across the trader population: Traders located outside Germany in non-Germanspeaking cities show lower proprietary trading profit. Their underperformance is not only statistically significant, it is also of economically significant magnitude and occurs for the 11 largest German blue-chip stocks. We also examine whether a trader location in Frankfurt as the financial center, or local proximity of the trader to the corporate headquarters of the traded stock, or affiliation with a large financial institution results in superior trading performance. The data provide no evidence for a financial center advantage or of increasing institutional scale economies in proprietary trading. However, we find evidence for an information advantage due to corporate headquarters proximity for high-frequency ~intraday! trading. INFORMATION AND ITS PRESUMED ASYMMETRIC distribution has become an important aspect of financial market theory. Yet even though information heterogeneity of agents is now a common assumption in microstructure models, direct evidence for the scope of such asymmetry is hard to provide.1 Existing theories offer little guidance as to who should be the better-informed investors. Moreover, it has proven difficult to document the existence of any investor group that consistently outperforms the market. For example, professional mutual fund managers appear unable to “beat” the market.2 * INSEAD and CEPR. The author thanks Anne-Kerstin Kampovsky and Siegfried Trautmann from the University of Mainz for providing the data. The generous cooperation of Corina Zitzmann of the Trading Surveillance Unit of the Frankfurt Security Exchange was indispensable for the project. I also profited from the assistance of my colleague, Minh Chau. Utpal Bhattacharya, Frank de Jong, Richard Lyons, Richard Portes, Hélène Rey, and Andrew Rose contributed helpful suggestions on an earlier draft. I also thank seminar participants at University of Frankfurt, University of Munich, University of Brussels, Graduate Institute of International Studies ~Geneva!, INSEAD, Stanford University, UC Berkeley, the CEPR0FMG conference in London, and the WFA 2000 for their comments. Financial support from the Research Center at ESSEC and INQUIRE-Europe is gratefully acknowledged. 1 Direct evidence for asymmetric information is provided by court cases on insider trading. But this gives little insight with respect to the scope of information asymmetries in the outsider population. 2 See, for example, Chevalier and Ellison ~1999! and Malkiel ~1995!. THE JOURNAL OF FINANCE • VOL. LVI, NO. 5 • OCT. 2001