Liquidity, Market Efficiency and the Influence of Noise Traders: Quasi-Experimental Evidence from the Betting Industry

This paper examines how liquidity affects market efficiency in a market environment where securities' true values are revealed at a predetermined point in time. We employ differences in minimum tick sizes at the betting exchange Betfair as a source of exogenous variation in liquidity. The results show that liquidity significantly decreases market efficiency for bets on weekend matches but not for bets on weekday matches. Because uninformed noise bettors are more likely to bet on weekends than on weekdays, our results indicate that the type of liquidity matters for market efficiency.