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Cross-sectional variation of market efficiency

Cross-sectional variation of market efficiency PurposeThis paper aims to provide evidence that market efficiency varies greatly across individual stock, and across market exchanges.Design/methodology/approachThree approaches, partial adjustment model, Dimson beta model and variance ratio test, are used on a large sample of US stocks.FindingsThis paper finds prices are closer to random walk benchmarks (i.e. more efficient) for stocks with better liquidity provision, frequent trading, greater return volatility, higher prices, larger market capitalizations and smaller trade sizes. These findings suggest that liquidity stimulates arbitrage activity, which, in turn, enhances market efficiency. Market efficiency also varies with information environment. The results show that stocks with greater information-based trading exhibit higher level of efficiency. Finally, market structure influences market efficiency. New York Stock Exchange stocks achieve higher level of efficiency than NASDAQ stocks do. The empirical results are robust and not driven by differences in stock attributes between the two markets.Research limitations/implicationsOverall, these results indicate that liquidity provision, stock attributes and market structure exert a significant impact on the realization of market efficiency.Practical implicationsIn addition, this paper is also relevant to both stock exchanges facing increased competition and to market regulators.Originality/valuePrior studies offer little evidence on the speed at which new information is impounded into the price. There is also limited evidence regarding how liquidity provision and market structure affect market efficiency. Using a transformation of the speed of price adjustment and other measurements as proxies for individual stock efficiency, this study may shed further lights on our understanding of market efficiency. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Review of Accounting and Finance Emerald Publishing

Cross-sectional variation of market efficiency

Review of Accounting and Finance , Volume 16 (1): 19 – Feb 13, 2017

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Publisher
Emerald Publishing
Copyright
Copyright © Emerald Group Publishing Limited
ISSN
1475-7702
DOI
10.1108/RAF-02-2016-0018
Publisher site
See Article on Publisher Site

Abstract

PurposeThis paper aims to provide evidence that market efficiency varies greatly across individual stock, and across market exchanges.Design/methodology/approachThree approaches, partial adjustment model, Dimson beta model and variance ratio test, are used on a large sample of US stocks.FindingsThis paper finds prices are closer to random walk benchmarks (i.e. more efficient) for stocks with better liquidity provision, frequent trading, greater return volatility, higher prices, larger market capitalizations and smaller trade sizes. These findings suggest that liquidity stimulates arbitrage activity, which, in turn, enhances market efficiency. Market efficiency also varies with information environment. The results show that stocks with greater information-based trading exhibit higher level of efficiency. Finally, market structure influences market efficiency. New York Stock Exchange stocks achieve higher level of efficiency than NASDAQ stocks do. The empirical results are robust and not driven by differences in stock attributes between the two markets.Research limitations/implicationsOverall, these results indicate that liquidity provision, stock attributes and market structure exert a significant impact on the realization of market efficiency.Practical implicationsIn addition, this paper is also relevant to both stock exchanges facing increased competition and to market regulators.Originality/valuePrior studies offer little evidence on the speed at which new information is impounded into the price. There is also limited evidence regarding how liquidity provision and market structure affect market efficiency. Using a transformation of the speed of price adjustment and other measurements as proxies for individual stock efficiency, this study may shed further lights on our understanding of market efficiency.

Journal

Review of Accounting and FinanceEmerald Publishing

Published: Feb 13, 2017

References