Private Information and Trade Timing

“Private Information and Trade Timing”, Smith (American Economic Review, 2000)

This paper investigates the Bayesian decision-theoretic foundations of the Wall Street adage that ‘timing is everything’. One might think that a ‘small’ risk-neutral trader wishes to act immediately upon any private information he possesses. I begin with a counterintuitive finding that trade timing doesn’t matter for an Arrow security, as one’s expected return per dollar invested is a martingale. This timing irrelevance discovery motivates an analysis of general compound securities. While timing there is ambiguous, I find that natural monotone likelihood ratio assumptions on both private and public information restore the intuition that one should trade with all due dispatch.