Order Imbalance, Liquidity, and Market Returns

by Tarun Chordia of Emory University,
Richard Roll of the University of California, Los Angeles, and
Avanidhar Subrahmanyam of the University of California, Los Angeles

July 2002

Abstract: Traditionally, volume has provided the link between trading activity and returns. We focus on a hitherto unexplored but intuitive measure of trading activity: the aggregate daily order imbalance, buy orders less sell orders, on the New York Stock Exchange. Order imbalance increases following market declines and vice versa, which reveals that investors are contrarians on aggregate. Order imbalances in either direction, excess buy or sell orders, reduce liquidity. Market-wide returns are strongly affected by contemporaneous and lagged order imbalances. Market returns reverse themselves after high-negative-imbalance, large-negative-return days. Even after controlling for aggregate volume and liquidity, market returns are affected by order imbalance.

JEL Classification: G10.

Keywords: Liquidity, Trading volume, Order imbalance.

Published in: Journal of Financial Economics, Vol. 65, No. 1, (July 2002), pp. 111-130.

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