Measuring the Bid-Ask Spreads: Application to the European Union Allowances Futures Market

Abstract: This study provides a case that the Thompson Waller estimator would have downward bias, which has not been carefully discussed in the literature. Such case is that (i) the buy (sell) order tends to follow buy (sell) order and (ii) the price change associated to such orders are small. The upward bias of the TW estimator would be canceled out by the downward bias, and in such case the estimator would perform better than the other absolute price change methods. The application to the European Union Allowances futures contract trading implies that its trading pattern and the price change provide the conditions that reduce the bias of the Thompson-Waller estimator. Lastly, the Madhavan-Richardson-Roomans model is applied to examine the spread component of the market. A dominance of asymmetric information component in the spread is found. The fraction of the spread attributable to that component increases gradually during the observation period.