Nested Information and Manipulation in Financial Markets
Rodney L. White Center for Financial Research Working Paper No. 06-00
Posted: 3 Aug 2000
Date Written: undated
We construct a model of trading in a financial market with an insider who may or may not be informed about the fundamentals. Rational traders called followers possess part of the private information of the insider (which the market makers do not possess) and trade on this information. This increases the competitive pressure on the informed insider and, when his private information is sufficiently long-lived, leads him to manipulate in every equilibrium. The presence of the followers also enables the uninformed trader to profitably manipulate by using the followers to generate "momentum" in the price process. We show that when there are many followers and a large number of trades before all private information is revealed, each type of the insider will manipulate in every equilibrium. The results are related to the literature on disclosure of insider trades and to dual trading.
JEL Classification: G12, G14
Suggested Citation: Suggested Citation