TY  - JOUR
AU  - Collin-Dufresne,Pierre
AU  - Fos,Vyacheslav
TI  - Insider Trading, Stochastic Liquidity and Equilibrium Prices
JF  - National Bureau of Economic Research Working Paper Series
VL  - No. 18451
PY  - 2012
Y2  - October 2012
UR  - http://www.nber.org/papers/w18451
L1  - http://www.nber.org/papers/w18451.pdf
N1  - Author contact info:
Pierre Collin-Dufresne
Ecole Polytechnique Federale de Lausanne
CDM SFI SFI-PCD
EXTRA 209
CH-1015 Lausanne
Switzerland
Tel: +41216930136
E-Mail: pierre.collin-dufresne@epfl.ch

Vyacheslav Fos
College of Business
University of Illinois at Urbana-Champaign
340 Wohlers Hall
1206 South Sixth Street
Champaign, IL, 61820
Tel: (217) 333-5734
E-Mail: vfos@illinois.edu
AB  - We extend Kyle's (1985) model of insider trading to the case where liquidity provided by noise traders follows a general stochastic process. Even though the level of noise trading volatility is observable, in equilibrium, measured price impact is stochastic. If noise trading volatility is mean-reverting, then the equilibrium price follows a multivariate 'stochastic bridge' process, which displays stochastic volatility. This is because insiders choose to optimally wait to trade more aggressively when noise trading activity is higher. In equilibrium, market makers anticipate this, and adjust prices accordingly.  More private information is revealed when volatility is higher. In time series, insiders trade more aggressively, when measured price impact is lower.  Therefore, execution costs to uninformed traders can be higher when price impact is lower.
ER  -