Liquidity, Trade, and Investor-Identity Disclosure
48 Pages Posted: 28 Feb 2022
Date Written: January 5, 2022
This study tests whether disclosing a trader's identity dampens or stimulates subsequent trading volume based on the trader's reputation for being informed. While a reputation for being informed makes markets less liquid, thus inhibiting subsequent trade ("illiquidity effect"), the information others glean from informed trade might motivate subsequent trade ("information effect"). To study which of these countervailing forces dominates, we use a setting where mandated short-position disclosures in Europe reveal the trader's identity at the time of trade. Changes in bid-ask spreads are positively associated with several proxies for the short seller's reputation: the short seller is local, has higher returns from previous short sales, and is a hedge fund or investment adviser. Despite the positive association between reputation and illiquidity, we show that reputation motivates more subsequent trade. We also provide evidence that future price informativeness increases with trader reputation. Thus, our results support the notion that the "information effect" dominates the "illiquidity effect." Our study contributes to the literature by investigating the interaction among investor identification, adverse selection, and trade.
Keywords: trading volume, bid-ask spreads, sophisticated investors, short selling
JEL Classification: D82, D83, G12, G14, G15, G23
Suggested Citation: Suggested Citation