Finance Papers

Document Type

Journal Article

Date of this Version

2008

Publication Source

The Journal of Finance

Volume

63

Issue

3

Start Page

1253

Last Page

1290

DOI

10.1111/j.1540-6261.2008.01357.x

Abstract

This paper models transaction costs as the rents that a monopolistic market maker extracts from impatient investors who trade via limit orders. We show that limit orders are American options. The limit prices inducing immediate execution of the order are functionally equivalent to bid and ask prices and can be solved for various transaction sizes to characterize the market maker's entire supply curve. We find considerable empirical support for the model's predictions in the cross-section of NYSE firms. The model produces unbiased, out-of-sample forecasts of abnormal returns for firms added to the S&P 500 index.

Copyright/Permission Statement

This is the peer reviewed version of the following article, which has been published in final form at http://dx.doi.org/10.1111/j.1540-6261.2008.01357.x. This article may be used for non-commercial purposes in accordance with Wiley Terms and Conditions for Self-Archiving.

Comments

At the time of publication, author Jakub W Jurek was affiliated with Harvard University. Currently, he is a faculty member at the Wharton School at the University of Pennsylvania.

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Date Posted: 27 November 2017

This document has been peer reviewed.