Expectations, Liquidity, and Short-term Trading
نویسندگان
چکیده
In a market with short term agents and heterogeneous information, when liquidity trading displays persistence, prices reflect average expectations about fundamentals and liquidity trading. Informed investors exploit a private learning channel to infer the demand of liquidity traders from the order flow to anticipate the evolution of the future aggregate demand for the stock. This yields multiple equilibria which can be ranked in terms of liquidity and informational efficiency. Our results have implications for the impact of High Frequency Trading (HFT) on market quality and for the role of average expectations in asset pricing. We show that with persistence HFT may enhance informational efficiency and liquidity but only by creating an unstable equilibrium. In the equilibrium with high (low) informational efficiency, prices are closer to (farther away from) fundamentals compared to consensus estimates.
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