Price Distortions in High-Frequency Markets

Jakub Steiner and Colin Stewart

No 1549, Discussion Papers from Northwestern University, Center for Mathematical Studies in Economics and Management Science

Abstract: We study the effect of frequent trading opportunities and categorization on pricing of a risky asset. Frequent opportunities to trade lead to large distortions in prices if some agents forecast future prices using a simplified model of the world that fails to distinguish between some states. In the limit as the period length vanishes, these distortions take a particular form: the price must be the same in any two states that a positive mass of agents categorize together. Price distortions therefore tend to be large when different agents categorize states in different ways. We characterize the limiting prices in terms of rational expectations prices associated with a coarsened process. Similar results hold if, instead of using a simplified model of the world, some agents overestimate the likelihood of small probability events, as in prospect theory. In this case a set aside may be better than a flat or percentage subsidy. JEL Code: D83, D84, D53

Keywords: categorization; price distortion; trading frequency (search for similar items in EconPapers)
Date: 2012-05-25
New Economics Papers: this item is included in nep-mst
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

Downloads: (external link)
http://www.kellogg.northwestern.edu/faculty/steiner/htm/hf.pdf main text (application/pdf)
Our link check indicates that this URL is bad, the error code is: 404 Not Found (http://www.kellogg.northwestern.edu/faculty/steiner/htm/hf.pdf [301 Moved Permanently]--> https://www.kellogg.northwestern.edu/faculty/steiner/htm/hf.pdf)

Related works:
Working Paper: Price Distortions in High-Frequency Markets (2014)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:nwu:cmsems:1549

Ordering information: This working paper can be ordered from

Access Statistics for this paper

More papers in Discussion Papers from Northwestern University, Center for Mathematical Studies in Economics and Management Science Center for Mathematical Studies in Economics and Management Science, Northwestern University, 580 Jacobs Center, 2001 Sheridan Road, Evanston, IL 60208-2014. Contact information at EDIRC.
Bibliographic data for series maintained by Fran Walker ( this e-mail address is bad, please contact ).