Clustering in US Stock Prices after Decimalisation
Journal Article
Overview
abstract
"Early in 2001, US equity markets transitioned from trading in discrete; price fractions to a smoother decimal format with a tick size of one; penny. Theory suggests in an unconstrained world, stock prices should be; distributed uniformly, particularly if the cost of defeating time priority; is low. This regime change provides a natural experiment to test whether; investors prefer to trade at particular price points even when their; choices are essentially unconstrained by regulation. Instead of; uniformity, we find widespread evidence of price clustering at increments; of five and ten cents (nickels and dimes); the overall magnitude of; clustering is double in scale of what is otherwise expected. Previous; studies which documented clustering around even-eighths argued that these; patterns were a rational market response to trading impediments. We report; consistent findings, but also find that the overall level of; post-decimalisation clustering is far more extensive than is reasonably; explained by prior hypotheses. The evidence instead suggests a more; fundamental human bias for prominent numbers as discussed in the; psychology literature. Contrary to previous studies, we find no difference; in price clustering, ceteris paribus, between the Nasdaq and NYSE after; decimalisation. Should regulators choose to revisit the notion of tick; size, our evidence suggests that for many stocks there would be only minor; impact between the transaction prices that prevail now and those that; would occur if the tick size were increased to five cents." Copyright 2007 The Authors Journal compilation (c) Blackwell Publishing Ltd.
