A Simultaneous Equations Model of Returns, Volatility, And Volume With Intraday Trading Dynamics

Abstract

This paperextends the finance literature by modeling stock returns, volatility, andvolume in a simultaneous equations model while incorporating the effects oftrading dynamics on these three variables. Evidence shows that returns, volatility, and volume are interrelated.  However, research typically examined them asthree separate relationships between each pair of the three variables. Priorliterature has also failed to examine the impact of intraday trading dynamicson returns, volatility, and volume.  Thisstudy overcomes both limitations.  Usinga simultaneous equations model that incorporates feedbacks among these threevariables, this study documents that intraday skewness hassignificant impacts on daily returns, volatility, and volume.  In addition, the two-way relationshipsbetween the variables change significantly when they are estimatedsimultaneously.  The findings in thisstudy deepen our understanding of the relationships between returns,volatility, and volume and have important implications for traders, portfoliomanagers, and other market participants.