Transcript Tools - Interest Rate and Currency Swaps

Prof. Avner Kalay - Investments
Pure Efficiency is impossible
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$100 on the ground
If the markets are totally efficient prices reflect all
available information
Therefore there are no returns on information
acquisition.
There will be no costly collection of information
So why would prices reflect the new information?
Prof. Avner Kalay - Investments
Tests of Market Efficiency – Weak Form
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Weak forms: These test attempt to find out if one
can make abnormal profits by following
investment strategy that uses only the history of
prices.
An investment strategy based on technical analysis
would be evidence of inefficiency in the weak
form.
Early tests show that there is not much value in
charts.
Prof. Avner Kalay - Investments
Tests of Market Efficiency – Weak Form
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The Weekend effect – Prices on close of Friday
higher than open on Monday. The difference is
smaller than the transaction costs.
January effect – the return of small firms during
the first week of January are abnormally high.
The phenomenon appeared in Australia where the
tax year is different
Data Snooping
Prof. Avner Kalay - Investments
Tests of Market Efficiency – Weak Form?
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Kalay and Wohl (2009).
Informed traders are more sensitive to market
prices than uninformed.
Hence there is information in the shape of the
demand and supply curve during the opening
session at the TASE.
If the demand (supply) curve is steeper than the
supply (demand), the stock price is likely to go
down (up) from the opening to the closing.
Prof. Avner Kalay - Investments
The Idea
Three informed investors and liquidity traders.
Investor 1 excess demand:
q1 = 10 – p
Investor 2 excess demand:
q2 = 12 – p
Investor 3 excess demand:
q3 = 14 – p
We break the excess demand of strategic investors to
demand and supply.
Prof. Avner Kalay - Investments
Tests of Market Efficiency – Weak Form?
14
12
10
Prof. Avner Kalay - Investments
Tests of Market Efficiency – Weak Form?
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Price
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Quantity
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Prof. Avner Kalay - Investments
Tests of Market Efficiency – Weak Form?
•At the equilibrium price of $12 investor
3 buys 2 units from investor 1 while
investor 2 stay out of the market.
•Now introduce asymmetric presence of
liquidity traders. Liquidity supply of 1
unit and liquidity demand of 2 units.
Prof. Avner Kalay - Investments
Tests of Market Efficiency – Weak Form?
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Price
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S
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quantity
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Prof. Avner Kalay - Investments
Tests of Market Efficiency – Weak Form?
•The larger presence of liquidity buys push the
equilibrium price to $12.333.
•At this price investor 1 supplies 2.333,
investors 2 supplies 0.333 and investor 3
demands 1.666.
•Only one strategic investor buys while two are
selling.
Prof. Avner Kalay - Investments
Tests of Market Efficiency – Weak Form?
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The economic value is still $12 hence we expect a
price drop.
KW (2009) measure the relative slope of the
demand and the supply and use it to predict the
return during the day
Flatter supply (demand) -- informed are selling
(buying) and prices will drop
Prof. Avner Kalay - Investments
Tests of Market Efficiency – Weak Form?
M=
|slope of the demand|/
[slope of the supply + |slope of the demand|]
Without the liquidity traders
M = 1/{1+1} = 1/2
With more liquidity buyers
M = 1/{1+2}=1/3
Prof. Avner Kalay - Investments
Tests of Market Efficiency – Weak Form?
Rj,t,open to close = j +
j Mopen,t +
t=1,2,..,167 days
j = 1,2,..,105 stocks
Average  = 2.349 with t of 29.83
Average adjusted R square = 0.139
j,t
Prof. Avner Kalay - Investments
Tests of Market Efficiency – Weak Form?
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Can one make money using this model?
Not clear.
We used all the information in the limit order
book while the market has only the most extreme
three.
Knowing the book is valuable.
Prof. Avner Kalay - Investments
The book
Orders to Sell
100 at $106
70 at $105.9
80 at $105.8
Orders to Buy
95 at $105.6
110 at $105.4
200 at $105.1
Prof. Avner Kalay - Investments
Earnings momentum
Stock
returns
E↑
Event time
E↓