Bid-ask spreads and insider trading: Recent Nasdaq evidence

This study investigates the cross-sectional relationship between equity bid-ask spreads and reported insider trading for Nasdaq National Market ordinary common stocks during July, 1998. It provides empirical evidence of a direct equilibrium relationship between spreads and the degree of informed trading risk faced by market makers from insider trading. The evidence shows that the spread-insider trading relationship depends on the degree of market maker competition as well as the degree of information asymmetry between firm insiders and outsiders. Several measures of insider trading activity are used as proxies for insider trading-based informed trading risk, including a novel measure of relative insider trading intensity---the ratio of turnover in insider-owned shares to turnover in non-insider-owned shares. Several measures of information asymmetry between firm insiders and outsiders are used, which are based on firms' intangible capital and investment opportunity sets. Only insider trades reported via Form 4 to the Securities and Exchange Commission within the time frame specified by law are considered in order to bound the data set used. The results complement previous empirical studies of the impact of insider trading on spreads of NYSE stocks.