Abstract
This paper tests the validity of the Corwin-Schultz bid-ask spread estimator in the Brazilian stock market. The Corwin-Schultz estimator arises as an easy way to compute asymmetric information throughout daily high and low stock prices for estimating overnight and non-negative adjusted spreads. The sample consisted of Ibovespa firms from 1986 to 2014 and was analysed with time series econometrics. The findings show that the measures of spread have stationarity properties, allowing for forecasting in a period of lagged variables, besides having the property of time-varying cointegration with market-to-book ratio, debt on equity, size and return and also presenting sensibility to different periods, industries and listing segments. Thus, the Corwin-Schultz bid-ask spread estimator seems to be a valid and reliable measure for forecasting aggregate-data variables through the weighted average of firm-level variables.
Highlights
Comprehending how information is obtained and disseminated is essential to understand how economies function (Rosser, 2003) as well as how it affects price movements (Cuthbertson & Nitzche, 2004; Muth, 1961).Information asymmetry occurs when one trader has more or better information than another, and this asymmetry influences market equilibrium (Akerlof, 1970) the informed traders’ orders bring information to the stock prices, improving the information’s quality of other traders, throughout the signalling issues (Spence, 1973), showing that competition in markets with imperfect information is more complex than assumed in classical economics
Asymmetric information occurs in the trading activity of stock markets along with order processing and inventory holding costs, and sometimes it could be difficult to distinguish between them, but the effects of adverse selection/asymmetric information have been found to be a significant part of the spread between bid-ask quotes (Huang & Stoll, 1997)
We investigate the validity of the bid-ask spread estimator (Corwin & Schultz, 2012a) as an easy-to-compute and alternative measure of asymmetric information in the Brazilian stock market
Summary
Information asymmetry occurs when one trader has more or better information than another, and this asymmetry influences market equilibrium (Akerlof, 1970) the informed traders’ orders bring information to the stock prices, improving the information’s quality of other traders, throughout the signalling issues (Spence, 1973), showing that competition in markets with imperfect information is more complex than assumed in classical economics. This complexity is because competitors may limit their customers’ purchases and competitive equilibria are not Pareto optimal (Rothschild & Stiglitz, 1976). Adverse selection has been found to increase when earnings announcements are expected, but order processing and inventory holding have been found to decrease (Krinsky & Lee, 1996)
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