Optimal Use of Financial Information

Abstract

This paper investigates the conditions under which a possessor of valuable information on financial security may prefer to sell it directly or give it away free of charge i.e., donating it to other market participants instead of trading on it. A market participant will never find it optimal to sell or donate the information that s/he has monopolistic ownership of. Otherwise, sale or donation of information has an important commitment effect in that it credibly commits a risk neutral possessor of information to a strategy which promotes more intense competition among informed trader s in the market and makes the trading strategies of other informed trader s les s aggressive. It is this strategic externality that makes the selling or donation of information an optimal strategy. The model in this paper also shows that if the security price does not fully reflect the private in formation of all the traders, diluting the seller's information before selling it is not optimal even if the seller trades on her own account while selling her information.