Short horizon trading and the strategic transmission of information into prices

We study the impact of short-horizons on the strategic behavior of informed traders and the transmission of their information into asset prices. Our framework is similar to Kyle [1985] where there is a competitive demand for information, modeled using a specialist who sets prices to equal the expected value of the asset conditional on the order flow, and where a certain level of noise (non-strategic) trading occurs. We show that in this framework, having a short-horizon creates incentives for traders to reveal their private information through trading. If the trader's private information becomes public during her lifetime, she masks her trades within the order flow from noise traders. When the probability of a public announcement of her private information diminishes during her lifetime, acknowledging that only her trading contains information, she utilizes her trading to signal her information over time, and she does so through aggressive trading. Thus, her incentives make prices more and more informative. In fact, we show that information about the far future is incorporated into prices much more quickly than information about the near future when the trader has a short-horizon. In the limit as the probability of announcement during her lifetime goes to zero, prices reveal no information.; We analyze the robustness of these results utilizing different discrete distributions for information and noise trading and market orders. We show that prices become more efficient the less likely the information is likely to be revealed during the lifetime of the trader. The implications of our results are that bid ask spreads and volatility are dynamic, and are contextually related to volume.; We suggest that even when there are adverse selection issues that reduce the informational efficiency of prices, the introduction of derivatives may mitigate these problems.; In a multi-period setting, we show that ultimately the trader is able to take advantage of both camouflaging her trades early on and then ultimately aggressively trading to reveal her information. Since the trader has greater degrees of freedom in signaling and camouflaging, her trades become more profitable. We also show that this flexibility does not reduce the informativeness of prices; the short-horizon trader is ultimately successful at influencing prices precisely because her signaling is costly. This differentiates her trading activity from manipulation.; The consensus of much of the literature on short-horizon trading has been to suggest that short-horizon trading leads to inefficiencies, and our work stands in sharp contrast with this literature. We suggest that successful short-horizon trading implies that the market is able to distinguish between information-based trades and non-informational trades and we highlight the links between our assumptions and the growing empirical literature on differentiating informational trades from liquidity trades.; We suggest that short-horizon trading should be prevalent in an environment where information is likely to come out publicly only in the far future. We suggest that our model may shed light on the short-horizon trading that has been documented in the days and months directly following the initial public offering of new companies. We offer a rational model of this behavior where information dissemination through trading may well explain the unusually high volatility and volume that appear to surround these new offerings. We show that many institutional and macroeconomic factors are conducive to short-horizon trading in the context of hot IPO markets of new ventures.