Scandinavian Working Papers in Economics

SIFR Research Report Series,
Institute for Financial Research

No 5: Reputation and Interdealer Trading. A Microstructure Analysis of the Treasury Bond Market

Massimo Massa and Andrei Simonov ()
Additional contact information
Massimo Massa: INSEAD, Postal: Boulevard de Constance, F- 77305 Fontainebleau Cédex, France
Andrei Simonov: Swedish Institute for Financial Research, Postal: Saltmätargatan 19A, SE-113 59 Stockholm, Sweden

Abstract: Trading generates not only information about the payoff of the assets traded, but also information about the traders themselves. Over time this information creates reputation. By using a unique dataset on the Treasury bond market we derive a measure of reputation. This is then used to group dealers on the basis of their reputation and to analyze how they react to the reputation of other dealers. We show that the same type of trade, on the same asset, in the same market can generate different volume and volatility patterns depending on the type of dealers originating it. We also identify the “marginal traders” – i.e. the class of dealers that has the highest impact on the market. These results have strong implications in terms of forecastability of future returns, volatility and overall trading volume because they show that most of the explanatory power of trades is due to marginal traders.

Keywords: Market Maker; Interdealer Market; Strategic Behavior; Learning; Trading Strategies; Reputation

JEL-codes: D82; D83; G14; G20

71 pages, November 11, 2001

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