Trading Activity and Price Behavior in the Stock a

AmericanEconomicAssociationTradingActivityandPriceBehaviorintheStockandStockIndexFuturesMarketsinOctober1987Author(s):JamesF.GammillandTerryA.MarshSource:TheJournalofEconomicPerspectives,Vol.2,No.3(Summer,1988),pp.25-44Publishedby:AmericanEconomicAssociationStableURL::15/04/201122:10YouruseoftheJSTORarchiveindicatesyouracceptanceofJSTOR'sTermsandConditionsofUse,availableat.://=aea..EachcopyofanypartofaJSTORtransmissionmustcontainthesamecopyrightnoticethatappearsonthescreenorprintedpageofsuchtransmission.JSTORisanot-for-profitservicethathelpsscholars,researchers,andstudentsdiscover,use,andbuilduponawiderangeofcontentinatrusteddigitalarchive.Weuseinformationtechnologyandtoolstoincreaseproductivityandfacilitatenewformsofscholarship.FormoreinformationaboutJSTOR,[e-mail]ioniscollaboratingwithJSTORtodigitize,preserveandextendaccesstoTheJournalofEconomicPerspectives.(hereafterreferredtoastheTaskForce)toinvesti-gatetheseeventsandtoreporttohimwithinsixtydays.Ourdiscussionherewillrely*JamesF.Gammill,Jr.isAssistantProfessorofBusinessAdministration,HarvardBusinessSchool,Boston,Massachusetts.TerryA.MarshisAssociateProfessorofFinance,GraduateSchoolofBusinessAdministration,UniversityofCalifomia,Berkeley,California.BothauthorswerestaffmemberswiththePresidentialTaskForceonMarketMechanisms.26JournalofEconomicPerspectivesheavilyonthereportofthisTaskForce,aswellasthereportsoftheSecuritiesandExchangeCommissionandtheCommodityFuturesTradingCommission.WefocusontradingactivityontheNewYorkStockExchange(NYSE)andontheS&P500stockindexfuturescontracttradedontheChicagoMercantileExchange(CME).Notonlyistheoveralltradingactivitymuchgreateronthesetwoexchangesthanontheirrivals,butvirtuallyallindexarbitrageactivity,whichiscrucialtotheintermarketframeworkpresentedbytheTaskForceReport(anddescribedbyGreenwaldandSteinintheprecedingpaper),occursbetweentheNYSEandtheCME.ThispaperdiscusseswhatactuallyhappenedduringtheOctobermarketbreakandthedaysimmediatelybefore.Itattemptstolayoutasetofstylizedfactsthatdescribedifferingcategoriesoftradersandhowtheybehavedandreactedtoeachotherduringthosedays.Webelievethatthisdescriptionofwhatactuallyhappenedprovidesanecessarystartingpointforfinancialeconomistsinterestedinexplainingthestockmarketbreak.BackgroundOverthepasttwentyyears,institutionalinvestorshavebecomeincreasinglyimportantasownersandtradersofstock.Duringthisperiod,manyinnovationshavebeendesignedtoaccommodateinstitutionalinvestors'demandstoadjusttheirex-posuretoequityriskquicklyandefficiently.Acommonfeatureofthevariousreportsonthemarketbreakisthattheyfocusontheseinnovations-suchasprogramtrading,stockindexfutures,andportfolioinsurance-andtheirimplicationsformarketbehavior.Institutionalinvestorsholddiversifiedportfoliosandimplementinganinvestmentstrategyoftenrequiresthemtotrademanydifferentstocks.Inanattempttor