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Market Orders and Market Efficiency

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  • Brown, David P
  • Zhang, Zhi Ming

Abstract

This work compares a dealer market and a limit-order book. Dealers commonly observe order flow and collect information from multiple market orders. They may be better informed than other traders, although they do not earn rents from this information. Dealers earn rents as suppliers of liquidity and their decisions to enter or exit the market are independent of the degree of adverse selection. Introduction of a limit-order book lowers the execution-price risk faced by speculators and leads them to trade more aggressively on their information. Introduction of the book also lowers dealer profits but increases the informational efficiency of prices. Copyright 1997 by American Finance Association.

Suggested Citation

  • Brown, David P & Zhang, Zhi Ming, 1997. "Market Orders and Market Efficiency," Journal of Finance, American Finance Association, vol. 52(1), pages 277-308, March.
    • Handle: RePEc:bla:jfinan:v:52:y:1997:i:1:p:277-308
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    Cited by:

    1. Pirrong, Craig, 1999. "The organization of financial exchange markets: Theory and evidence," Journal of Financial Markets, Elsevier, vol. 2(4), pages 329-357, November.
    2. Challe, Edouard & Chrétien, Edouard, 2018. "Market microstructure, information aggregation and equilibrium uniqueness in a global game," European Economic Review, Elsevier, vol. 102(C), pages 82-99.
    3. Paul Brockman & Dennis Y. Chung, 1999. "Bid-Ask Spread Components In An Order-Driven Environment," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, vol. 22(2), pages 227-246, June.
    4. Cespa, Giovanni, 2002. "Short-term investment and equilibrium multiplicity," European Economic Review, Elsevier, vol. 46(9), pages 1645-1670, October.
    5. Jun Muranaga & Tokiko Shimizu, 1999. "Market Microstructure and Market Liquidity," CGFS Papers chapters, in: Bank for International Settlements (ed.), Market Liquidity: Research Findings and Selected Policy Implications, volume 11, pages 1-28, Bank for International Settlements.
    6. Ali, Searat & Liu, Benjamin & Su, Jen Je, 2017. "Corporate governance and stock liquidity dimensions: Panel evidence from pure order-driven Australian market," International Review of Economics & Finance, Elsevier, vol. 50(C), pages 275-304.
    7. Nadarajah, Sivathaasan & Ali, Searat & Liu, Benjamin & Huang, Allen, 2018. "Stock liquidity, corporate governance and leverage: New panel evidence," Pacific-Basin Finance Journal, Elsevier, vol. 50(C), pages 216-234.
    8. M. Kathleen Ngangoué & Georg Weizsäcker, 2021. "Learning from Unrealized versus Realized Prices," American Economic Journal: Microeconomics, American Economic Association, vol. 13(2), pages 174-201, May.
    9. Marshall, Ben R. & Young, Martin, 2003. "Liquidity and stock returns in pure order-driven markets: evidence from the Australian stock market," International Review of Financial Analysis, Elsevier, vol. 12(2), pages 173-188.
    10. Brown, Philip & Thomson, Nathanial & Walsh, David, 1999. "Characteristics of the order flow through an electronic open limit order book," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 9(4), pages 335-357, November.
    11. Challe, Edouard & Chrétien, Edouard, 2015. "Market composition and price informativeness in a large market with endogenous order types," Journal of Economic Theory, Elsevier, vol. 158(PB), pages 679-696.
    12. Daniel Chai & Robert Faff & Philip Gharghori, 2013. "Liquidity in asset pricing: New Australian evidence using low-frequency data," Australian Journal of Management, Australian School of Business, vol. 38(2), pages 375-400, August.
    13. Vu, Van & Chai, Daniel & Do, Viet, 2015. "Empirical tests on the liquidity-adjusted capital asset pricing model," Pacific-Basin Finance Journal, Elsevier, vol. 35(PA), pages 73-89.
    14. Moez Bennouri & C. Clark & Jacques Robert, 2010. "Information provision in financial markets," Annals of Finance, Springer, vol. 6(2), pages 255-286, March.
    15. Fang Cai, 2009. "Trader Exploitation Of Order Flow Information During The Ltcm Crisis," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, vol. 32(3), pages 261-284, September.
    16. Fang Cai, 2003. "Was there front running during the LTCM crisis," International Finance Discussion Papers 758, Board of Governors of the Federal Reserve System (U.S.).
    17. Berkman, Henk & Koch, Paul D., 2008. "Noise trading and the price formation process," Journal of Empirical Finance, Elsevier, vol. 15(2), pages 232-250, March.
    18. Ariadna Dumitrescu, 2003. "Imperfect Competition and Market Liquidity with a Supply Informed Trader," UFAE and IAE Working Papers 591.03, Unitat de Fonaments de l'Anàlisi Econòmica (UAB) and Institut d'Anàlisi Econòmica (CSIC).
    19. Chai, Daniel & Faff, Robert & Gharghori, Philip, 2010. "New evidence on the relation between stock liquidity and measures of trading activity," International Review of Financial Analysis, Elsevier, vol. 19(3), pages 181-192, June.
    20. Katya Malinova & Andreas Park, 2009. "Liquidity, Volume, and Price Behavior: The Impact of Order vs. Quote Based Trading," Working Papers tecipa-358, University of Toronto, Department of Economics.
    21. Hendrik J. Blok, 2000. "On the nature of the stock market: Simulations and experiments," Papers cond-mat/0010211, arXiv.org.

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