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Economic Models and Insider Trading
One cannot truly understand the effect of insider trading if one does not analyze the effect of insider trading to both the big picture and to individual situations. It is very difficult to measure the effect of insider trading without putting on parameters to use in economic models that can measure the effect of insider trading to both the aggregate and the individual. In order to make conclusions and findings about insider trading and its effects, economists used two categories in understanding insider trading. These two categories include the insider trading's effect on the aggregate economy's performance as well as its effect on the individual welfare of the different economic and market actors. The variables that are used in studying insider trading and its effect on the economy include the capital cost of the corporation, the liquidity of the company's stock, the investment level and the information brought about by the price of the company's stock.
The capital cost of the corporation is important as a measurement tool as it can significantly affect the company's ability to grow and develop and to raise additional capital for expansion. Liquidity of the company's stock is also important as it signifies the ability of the stock to sell in the fastest possible manner that it can. Liquidity of the stock measures the attractiveness of the company's stock to all the investors and stock buyers. The investment level is also chosen as a variable to measure the effect of insider trading to the economy as it shows the amount that is allotted by the corporation to expand the firm and it also shows production capacity of the economy as a whole. The informativeness of a stock price is also important as it shows the risk that one is taking in buying the shares of a company. Remember that the stock prices are a reflection of a company's true value as determined by the market forces and the information available to the public. The more informative a stock price is as to the company's value, the less risk the investor is taking in as he is investing in the company with a more stable idea of what the company truly is.
Aside from the first category of variables that is used by the economists in making economic models and finding the effects of insider trading to the aggregate economy, there is also the second category of variables that lets the economists measure the individual effect of insider trading to each of the economic actors. One must understand that it is very difficult for any economist to capture all of the individual interests as well as the individual losses and gains because of insider trading. It is very difficult if not impossible to take into account all of the market and economic actors that are affected by insider trading. That is why in economic models these actors have been grouped into different categories. These are the insiders, the market professionals, the liquidity traders and the investors. These categories of agents can roughly take into account all that is affected by insider trading. I have discussed the concepts behind these actors in my previous article.
The capital cost of the corporation is important as a measurement tool as it can significantly affect the company's ability to grow and develop and to raise additional capital for expansion. Liquidity of the company's stock is also important as it signifies the ability of the stock to sell in the fastest possible manner that it can. Liquidity of the stock measures the attractiveness of the company's stock to all the investors and stock buyers. The investment level is also chosen as a variable to measure the effect of insider trading to the economy as it shows the amount that is allotted by the corporation to expand the firm and it also shows production capacity of the economy as a whole. The informativeness of a stock price is also important as it shows the risk that one is taking in buying the shares of a company. Remember that the stock prices are a reflection of a company's true value as determined by the market forces and the information available to the public. The more informative a stock price is as to the company's value, the less risk the investor is taking in as he is investing in the company with a more stable idea of what the company truly is.
Aside from the first category of variables that is used by the economists in making economic models and finding the effects of insider trading to the aggregate economy, there is also the second category of variables that lets the economists measure the individual effect of insider trading to each of the economic actors. One must understand that it is very difficult for any economist to capture all of the individual interests as well as the individual losses and gains because of insider trading. It is very difficult if not impossible to take into account all of the market and economic actors that are affected by insider trading. That is why in economic models these actors have been grouped into different categories. These are the insiders, the market professionals, the liquidity traders and the investors. These categories of agents can roughly take into account all that is affected by insider trading. I have discussed the concepts behind these actors in my previous article.
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