Title

Order Preferencing, Adverse-selection Costs, and the Probability of Information-based Trading

Document Type

Article

Publication Date

1-2006

Publication Source

Review of Quantitative Finance and Accounting

Volume

27

Issue

4

Inclusive pages

343-364

DOI

10.1007/s11156-006-0042-3

ISBN/ISSN

0924865X

Abstract

Although prior studies offer various conjectures on the causes and consequences of order preferencing, there is only limited empirical evidence. In this study, we show that the extent of order preferencing is significantly and negatively related to both the adverse-selection component of the spread and the probability of information-based trading. This result is consistent with the prediction of the clientele-pricing hypothesis that dealers (brokers) selectively purchase (internalize) orders based on information content. Our results suggest that order preferencing may not be as harmful as some researchers have suggested and offer some rationale for its prevalence in securities markets with heterogeneously informed traders.

Disciplines

Accounting

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