The Intraday Impact of Price Limits on

Magnet and Momentum Effects

Yan Du*
Qianqiu Liu*

and

S. Ghon Rhee**

Current version: April 2006

*All at the College of Business

University of Hawai’i at Manoa
2404 Maile Way, C-305
Honolulu, HI 96822-2282, USA

**Contact Author
Tel No.: (808) 956 2535
Fax No.: (808) 956 2532
e-mail: rheesg@hawaii.edu
 The Intraday Impact of Price Limits on
Magnet and Momentum Effects

Abstract
This paper unfolds the intraday impact of price limits on the magnet effect and the
momentum effect. Using Korea Stock Exchange’s high frequency trading data and limit order book,
we confirm the presence of the magnet effect by demonstrating accelerated trading activities during
the 30-minute period prior to limit hits. We introduce quasi limit hits in the Korea Stock Exchange
and pseudo limit hits in NASDAQ to distinguish the magnet effect from intraday momentum effect.
This paper concludes that the magnet effect is led by the existence of price limits; dictated by the
width of price limit band; and is not confined to a particular group of stocks.

JEL Classification: G10; G14; G15; G18

Keywords: Price Limits; Magnet Effect; Momentum Effect; Acceleration; Magnitude;

Persistence
 The Intraday Impact of Price Limits on
Magnet and Momentum Effects

1. Introduction

Price limits set daily ceiling and floor prices of individual stocks, usually stated as a

percentage change from the previous day’s closing price. Market regulators use price limits as a

means to curb excessive price movement. Price limits are used in a majority of the Asian and

European stock markets, including France, Italy, Australia, China, Japan, Taiwan, etc. Many stock

exchanges have adopted multiple price limit rules in search of their benefits. For instance, the

Taiwan Stock Exchange used eleven different daily price limits since 1962 with its most recent

change from 5% to 7% in 1989; the Stock Exchange of Thailand raised the price limit from 10% to

30% at the end of 1997; the stock markets in China initiated the 10% daily price limit at the end of

1996; the Korea Stock Exchange (KRX) raised its daily price limit from 4.6% to 15% in four

phases from 1995 to 1999, and its most recent change was from 12% to 15% on December 7, 1998.

The implications of price limits on market liquidity, volatility, and price discovery have

drawn much attention from market participants, regulators and academia. Three hypotheses are

proposed and documented in earlier studies: delayed price discovery, volatility spillover, and

interfered trading [Kim and Rhee (1997), Lee et al. (1994), Kuhn et al. (1991), Fama (1989),

Lehmann (1989), and Telser (1989)]. However, most of the early studies on price limits are limited

to the analysis of days before and/or after limit hits due to the unavailability of intraday data. As a

result, the intraday impact of price limits remains largely unexplored, i.e., the magnet effect, that is

also known as the gravitational effect.

The concept of the magnet effect is not new to the academia. In fact, it has been quoted

many times in earlier research but the discussions remain conjectural due to the lack of empirical

evidence. Miller (1991) proposes that circuit breakers could be self-fulfilling if traders rush to avoid

1
being locked into their positions when prices come in the range of the trigger point.1 Greenwald and

Stein (1991) note that the magnet effect makes circuit breakers vulnerable to criticism in that the

very existence of a circuit breaker might cause large declines to feed on themselves and cause the

market to crash. Gerety and Mulherin (1992) further point out that the possibility of a trading halt

after a price change of a fixed percent would make investors generally nervous and prone to leave

the market more quickly compared to a situation where a circuit breaker did not exist.

Subrahmanyam (1994) is the first who provides concrete predictions of the magnet effect

based on an inter-temporal model of circuit breakers. He proposes that price variability, market

liquidity, trading volume, and the probability of the price crossing circuit breaker bounds will

increase in the period before the limit hit due to suboptimal order submissions. The same notion is

reflected in Subrahmanyam (1995), in which it is noted that discretionary closures, such as trading

halts can bring more information into the closure decision. Therefore discretionary trading halts can

be less susceptible to the magnet effect than rule-based halts, such as price limits. The implications

of price limits may also be related to the literature on market closure because price limits

effectively interrupt continuous trading. Slezak (1994) uses a multi-period model on market closure

and predicts that market closures increase pre-closure trading volume because closures delay the

resolution of information uncertainty and impose more risk on informed and uninformed traders.

Theoretical studies on circuit breakers and price limits predict the existence of the magnet

effect but relevant empirical evidence is limited. Previous studies on price limits primarily use

futures contracts because price limits exist only in U.S futures markets, and their results are mixed.

McMillan (1990) examines market breaks in S&P500 futures market on October 13th and 16th of

1987 and finds strong patterns of runs in prices prior to the triggering of the circuit breakers, in

support of the magnet effect. Kuserk et al. (1989) and Arak and Cook (1997) both examine

1
Circuit breakers in U.S. stock markets function similarly to price limits. Circuit breakers set the lower bound
of major stock indices and the transaction of the entire market ceases once the bound is triggered. In
comparison, price limits set both upper and lower price bounds for individual stocks and trading quickly dries
up once price limits are triggered. However, the transaction may continue as long as execution prices are
within the upper and lower bounds.
2
Treasury bond futures contracts and do not find the magnet effect. Berkman and Steenbeek (1998)

investigate Nikkei 225 futures contracts traded in the Osaka Securities Exchange (OSE) and the

Singapore International Monetary Exchange (SIMEX) and attribute the lack of the magnet effect to

strong arbitrage links between OSE and SIMEX 2 Hall and Korfman (2001) examine five

agricultural futures contracts and find that price limits in the futures markets has neither the

stabilization nor the magnet effect.

Studies on the magnet effect of price limits in equities markets spawned only recently.

Ackert et al. (2001) find that market participants accelerate their transactions if a trading

interruption is imminent in an experimental setting. Cho et al. (2003), using high-frequency data

from the Taiwan Stock Exchange, document a distinct tendency for stock prices to accelerate

toward the upper bound and weak evidence of acceleration toward the lower bound. Chan et al.

(2005) find that price limits, albeit as wide as 30% in the Kuala Lumpur Stock Exchange, do not

improve information asymmetry, delay the arrival of informed traders, and exacerbate order

imbalance prior to limit hits. Nath (2003) finds that trading activity accelerates when stock prices

approach the neighborhood of lower price limits, but not upper price limits using tick data from the

National Stock Exchange of India. Abad and Pascual (2005) find that prices reverse or decelerate as

they approach price limits in the Spanish Stock Exchange, rejecting the magnet effect. But their

results are confounded by a five-minute post limit-hit call auction, which makes it hard to isolate

the impact of price limits per se. Seasholes and Wu (2004) examine the profitability of exploiting

price limit hits. They report that smart traders in the Chinese stock market make profit by

accumulating shares on days of upper limit hits and selling them out to unsophisticated traders the

following day. They find that those smart traders concentrate their orders within five minutes

following its first time price limit hit, opposite to the implication of the magnet effect on heavier

trading activities prior to limit hits.

2
The SIMEX is now a part of the Singapore Exchange.

3
 Overall, previous studies on the magnet effect of price limits in equity markets are limited

in their scope and the reported findings are inconclusive. We believe that three major limitations are

observed in earlier studies. First, past studies have stopped short of highlighting the intraday

accelerating nature of the magnet effect. Distinct from delayed price discovery, volatility spillover

and interfered trading hypotheses, the magnet effect applies to the period immediately prior to limit

hits. Many studies use days surrounding price limits to infer the magnet effect, which is ineffective

in investigating intraday trading irregularities, not to say capturing the gravitational feature of the

magnet effect.

Second, the intraday momentum effect has not been controlled for when identifying the

magnet effect. Behavioral finance has provided multiple theories that explain positive short-term

price momentum: conservatism in Barberis et al. (1998), over-confidence and biased self-

attribution in Daniel et al. (1998) and momentum traders’ reliance on past returns in Hong and

Stein (1999). All three theories predict that investors underreact to news announcement in the short

term and prices exhibit positive autocorrelation. Although these theories do not intentionally

address intraday investor sentiment, it is reasonable to conjecture that intraday trend chasing may

be pronounced on days with large price movements usually associated with news announcements.

Cho et al. (2003) differentiate the intraday momentum and the magnet effect. They introduce the

changes from opening prices as a momentum proxy but admit that their distinction might not be

effective because the momentum and magnet variables are highly correlated.

Third, previous studies do not provide conclusive evidence on the magnet effect for upper

and lower limit hits. Some studies find that the magnet effect manifests differently on upper and

lower limit hit days [Cho et al. (2003) and Nath (2004)].

We expand the scope of previous studies on the magnet effect by addressing all three

limitations discussed above. We make contributions in the following four areas. First, we use a

quadratic function to fathom the accelerating pattern of market activities. We focus on the 30-

minute period prior to limit hits to examine the behavior of five market microstructure variables;

4
namely, rates of return, trading volume, volatility, order flow, and order types. Our approach

highlights the much-needed characterization of the magnet effect in a functional form and presents

the analyses in three dimensions: acceleration rates, the magnitude and the persistence of

acceleration of each variable under consideration. Our findings indicate that all five market

microstructure variables exhibit abnormal behavior and significant acceleration rates prior to limit

hits, signifying the presence of the magnet effect.

Second, we identify the magnet effect after controlling for intraday momentum effect. We

find that a narrow price limit features higher acceleration than a wide price limit, consistent with the

predictions of the magnet effect, but not of the momentum effect. In addition, we introduce quasi

limit hits on actual limit hit days to control for the intraday momentum effect. Quasi limit hits

represent large price movements but they are not large enough to hit price limits. The difference

between acceleration rates of actual and quasi limit hits is attributed to price limits after the intraday

momentum effect is controlled for. We further provide evidence that no magnet effect exists in a

market where no price limits exist. Using price movements of NASDAQ securities, we demonstrate

the presence of a strong momentum effect only.

Third, we compare the magnet effect between upper and lower limit hits. We find that the

magnet effect is significant for both upper and lower limit hits. Upper limit hits draw heavier

trading volume, greater order flow, and make more use of market orders than lower limit hits. In

contrast, lower limit hits are associated with higher acceleration in volatility and rates of return than

upper limit hits.

Fourth, we examine the impact of firm characteristics on the magnet effect. Although

small-cap stocks trigger price limits more frequently than medium- and large-cap stocks, no

consistent differences in acceleration rates are observed. Therefore, we conclude that the magnet

effect is not confined to stocks with certain characteristics.

The remainder of this paper is organized as follows. In Section 2, we present the

institutional background of the KRX and summary statistics of limit hits. In Section 3, detailed

5
discussions are presented on our research methodology. In Section 4, we characterize the magnet

effect using five market microstructure variables in three dimensions of magnitude, acceleration

rates, and persistence. In Section 5, we make distinction between the magnet effect and the

momentum effect. In Section 6, we report the impact of firm characteristics on the magnet effect. In

Section 7, we present conclusive remarks.

2. Institutional background and sample statistics

2.1. Institutional background

This paper uses KRX tick-by-tick data of three months before and after December 7, 1998,

when the price limit was raised from 12% to 15%. The KRX is one of the most active stock

exchanges in the world. At the end of 2005, the KRX had 702 listed companies and 858 listed

issues and the total market capitalization is $648.6 billion.3 During the year of 2005, the average

daily trading volume is 468 million shares and the average daily trading value is $3.1 billion in the

KRX, compared to those of 1.6 billion shares and $56.1 billion in the NYSE. The annual share

turnover is 504% in the KRX, much higher than 103% in the NYSE in 2005.

The KRX opens from Monday to Friday and currently has four trading sessions in each

trading day: a pre-hours session 7:30-8:30 A.M., a morning session 9:00 A.M.-12:00 Noon, an

afternoon session 1:00-3:00 P.M., and an after-hours session 3:10-4:00 P.M.4 Like all other Asian

stock markets, the KRX is an order-driven market, where buy and sell orders compete for the best

prices. A call market auction is applied to the morning and afternoon session’s open and the market

close. Orders are accumulated over a one-hour period prior to the opening call auction of each

trading session. Orders are also accumulated over a 10-minute period before the closing call auction

occurs at 3:00 P.M. During the rest of trading sessions, orders are continuously matched to satisfy

3
We use the exchange rate of US$1=KRW 1,010 as of December 31, 2005.
4
The pre-hours session was introduced to KRX on December 1, 2003. The after-hours session was extended
by 20 minutes on October 14, 2002. It was from 3:10-3:40 P.M. in our sample period. The pre-hours and
after-hours sessions are specially designed to facilitate basket trading where paired buy and sell orders are
executed at the preceding closing prices.

6
both parties in terms of price and time priority. The KRX fully automated its securities trading on

September 1, 1997.

The KRX currently sets its daily price limit at 15%, which rules that stock prices can not

move beyond 15% above or below their previous day’s closing prices. The most recent change on

price limits took place on December 7, 1998, when it was raised from 12% to 15%. This event

divides our sample period into two regimes: the pre-regime, from September 1 to December 6, 1998

and the post-regime, from December 8, 1998 to March 31, 1999.5

2.2. Sample statistics

We select common stocks that had over 100 daily transactions and traded on each trading

day in our study period. Our sample consists of 385 stocks, totaling $52.7 billion in capitalization

and the average firm size is $137 million as of September 1, 1998. 354 out of these 385 stocks have

at least one instance of limit hit during our study period. There are 80 trading days in the pre-regime

and 73 trading days in the post-regime. Using the same sorting standards as the KRX fact book,

there are 220 small firms, 77 medium firms, and 88 large firms in our sample and they are from 39

out of the 41 industries.6

Price limits are set at 12% in the pre-regime and 15% in the post-regime. However, we take

into account tick size rules when limit hits are identified; prices do not need to reach actual limit

prices to effectively trigger price limits for the purpose of our study.7 For example, if a stock closes

at 4,900 won on day t and ruling price limits are 15%, its price range on day t+1 is 4,165 won -

5,635 won. When its price reaches 5,630 won on day t+1, it will not be allowed to move up further
5
On the same day, the KRX closed Saturday trading and extended its morning session by one hour, from
9:30-11:30 A.M. to 9:00 A.M.-12:00 Noon.
6
Companies are defined as small-sized firms if their capitalization is less than 35 billion won, as medium-
sized firms if their capitalization is between 35 billion won and 75 billion won, and as large-sized firms if
their capitalization is above 75 billion won.
7
The tick size is the minimum price movement between two consecutive transactions. The tick size is 5 won
if stocks price are below 5,000 won; 10 won if stock prices are between 5,000 won and 10,000 won; 50 won
if stock prices are between 10,000 won and 50,000 won; 100 won if stock prices are between 50,000 won and
100,000 won; 500 won if stock prices are between 100,000 won and 500,000 won, and 1,000 won if stock
prices are above 500,000 won.

7
because the tick size is 10 won. As a result, at the price of 5,630 won, we consider that this stock

effectively triggers price limits.

An upper limit hit is thus identified when Hk,t > (1+LIMIT)Pk,t-1 - TICKk,t, where Hk,t is stock

k’s highest price on day t, Pk,t-1 is stock k’s closing price on day t-1, LIMIT is the prevailing daily

price limit, which is 12% in the pre-regime and 15% in the post-regime, and TICKk,t is the tick size

for stock k at Hk,t. A lower limit hit is identified when Lk,t < (1-LIMIT)Pk,t-1 + TICKk,t, where Lk,t is

stock k’s lowest price on day t.8 We classify the sample of limit hits into four cases: the pre-up, the

pre-down, the post-up; and the post-down limit hits with the prefix representing the regime and the

suffix representing the direction of limit hits. Figure 1 plots the intraday distribution of limit hits for

four price limit cases.

[Insert Figure 1]

We observe that the most limit hits occur in the first 30 minutes after market open in all

four cases. The number of hits levels off during mid-day trading but rises prior to the market close.

We use the Chi-squared goodness-of-fit test to compare the likelihood of limit hits during each half

hour trading period. Our unreported results show that upper limit hits are most likely to occur

during the first 30 minutes of the morning session and lower limit hits are most likely to occur

during both the first and the last 30 minutes of the trading day. It is consistent with the belief that

market open and market close feature higher volatility and heavier trading activities.

[Insert Table 1]

Table 1 presents detailed summary statistics of price limit hits. Panel A presents the counts

of limit hits in various categories. We identify a total of 1,449, 300, 1,219, and 492 limit hits for the

pre-up, pre-down, post-up and post-down cases, respectively. The average daily upper limit hits are

18.1 and 16.5 and lower limit hits are 3.8 and 6.6 under the pre- and the post- regimes, respectively.

The fact that there are considerably more upper limit hits than lower limit hits is consistent with an

8
We exclude days when both upper and lower limit hits took place and days that prices moved beyond limit
prices. The KRX may allow a wider daily price limit under two cases: (i) the market reopens after long
holidays; and (ii) the exchange deems that the application of the daily price limit is extremely difficult due to
drastic changes in market conditions.
8
upward market trend in the KRX during the study period. The Korea composite stock price index,

KOSPI, increased 66% in the pre-regime and additional 20% in the post-regime.

We also observe that limit hits spike at the market open, which accounts for 17% (12%) of

upper limit hits and 14% (18%) of lower limit hits in the pre- (post-) regime. About 60% of upper

limit hits and 48% of lower limit hits occur in the morning session. In addition, we find that around

65% of upper limit hits and 50% of lower limit hits close at limit prices, which are labeled as

locked limit hits. Subsequent to locked limit hits, considerably more price continuations are

observed than price reversals. For example, 78% of locked upper limit hits and 62% of locked

lower limit hits are followed by price continuation, much higher than the equal probability of 50%.

A high likelihood of price continuation is consistent with the delayed price discovery hypothesis

[Kim and Rhee (1997)]. If the price discovery process is interrupted by limit hits, it will resume this

process as the market reopens, thus continuing its earlier trend.9

In addition, there is an asymmetry between upper and lower limit hits in that lower limit

hits are less likely followed by price continuation than upper limit hits. This may be explained by

investors’ over-optimistic sentiment and the tendency of overreacting to positive news. De Bondt

and Thaler (1990) and Butler and Lang (1991) report that financial analysts systematically produce

over-optimistic forecasts on stock prices and earnings. Following these suggestions, investors are

prone to chase upward trends more persistently than downward trends.

Panel B of Table 1 provides intraday characteristics of limit hits: specifically, the number

of intraday limit hits, the time duration of limit hits, and the count of limit hits by individual stocks.

Most stocks trigger price limits repeatedly within a limit hit day: prices hit the limits; drift away;

and hit limits again. The average number of intraday limit hits ranges from 5.1 of pre-down limit

hits to 8.4 of post-up limit hits. Only the first time limit hit is considered an observation of limit hits

in our study. The limit hit duration is the time period from the first time limit hit to the last moment

that prices stay at limit prices. The average duration of limit hits varies from 50 minutes for pre-
9
Shen and Wang (1998) report that upper limit hits increase return autocorrelations much more than lower
limit hits based on the Taiwan Stock Exchange-listed stocks.
9
down limit hits to 93 minutes for post-down limit hits, longer than those reported for the Taiwan

market by Cho et al. (2003), 52 minutes for upper limit hits and 42 minutes for lower limit hits. The

maximum number of limit hit days by an individual stock ranges from 7 of pre-down limit hits to

21 of pre-up limit hits.

3. Research methodology

3.1. Multiple market microstructure variables

In this paper, we investigate the intraday behavior of five market microstructure variables

prior to limit hits. The five variables include: the rates of return, trading volume, volatility, order

flow and the choice of order types. In order to explore the accelerating nature of the magnet effect,

we focus on 30-minute period immediately preceding limit hits. It is reasonable to believe that the

magnet effect becomes pronounced when prices reach a certain percentage of price limits and limit

hits become imminent. A 30-minute period is considered long enough to capture the dynamics of

the magnet effect and short enough to keep focused. Chordia et al. (2005) suggest that the

adjustment to the weak form market efficiency is not instantaneous and it is well under way within

no more than 30 minutes. Goldstein and Kavajecz (2004) find that investors change their trading

behavior during nine minutes before the market breakdown on October 27-28, 1997, NYSE.

We divide the half an hour pre-hit period to 10 three-minute intervals and measure the

market microstructure variables in each interval. All the raw values are standardized by their means

and standard deviations on non-limit hit days in respective regimes. To the best of our knowledge,

it is the first study that provides a comprehensive view of the magnet effect using a multiple

number of variables in the price limit literature.

3.2. Baseline model

We use the following baseline model to examine the three dimensions of the magnet effect

for respective market microstructure variables:

Market Microstructure Variable k ,t ,i = α + β INTk ,t ,i + γSQINTk ,t ,i + ε k ,t ,i

10
 The dependent variables are five market microstructure variables measured for stock k on

day t at interval i. INT takes the value of 1 through 10 from the furthest to the closest interval to

price limit hits, and SQINT is the squared INT. The baseline model allows us to examine the

behavior of each variable in three dimensions: (i) magnitude; (ii) acceleration rates; and (iii)

persistence of acceleration. Dummy variables will be introduced to the equation above to compare

the estimated coefficients between pre- and post-regimes and between upper and lower limit hits,

Under the magnitude dimension, we review the progression of each variable based on its

magnitude in the ten 3-minute intervals prior to limit hits. This magnitude dimension is useful in

three aspects: i) identify abnormal trading activities on limit hit days; ii) compare the association of

upper and lower limit hits; and iii) contrast the pre- and post-regimes characterized by the narrow

and wide price limit bands.

The estimated coefficient of SQINT (γ) indicates the acceleration rate of each variable

during the 30-minute pre-hit period. We believe that acceleration rates represent the core part of the

magnet effect. It characterizes the trend of market activities when price limits are being approached.

We will compare acceleration rates in the pre- and post-regimes to highlight the differential impacts

of price limits depending on the narrow and wide limit bands. Acceleration rates should also be

informative to contrast how the five market microstructure variables exhibit differential patterns

prior to upper and lower limit hits.

Lastly, estimated β and γ jointly determine the max/min point of a quadratic function. If γ is

positive, the minimum point of the convex curve is positioned at INT being –β/2γ. Therefore, the

persistence of acceleration is measured by 3(10+β/2γ), which is the length of the time period from

the minimum point of a convex function to the limit hit moment. The persistence of acceleration

will be estimated for the five market microstructure variable in each of four limit hit cases: pre-up,

pre-down, post-up, and post-down.

3.3. Magnet effect vs. intraday momentum effect

11
 One complication in identifying the magnet effect is that it is difficult to distinguish it from

intraday momentum effect because both forces might lead to accelerating trading activities.

Intraday momentum effect on the basis of high-frequency transaction data has not been well-

defined in the literature while price momentum over intermediate-term investment horizons

(ranging from three months to one-year) has been extensively researched.10 In this paper, we take

the following three steps to make the distinction.

First, we explore the different reactions of the magnet effect and the momentum effect to

the width of price limit bands.11 We believe that a narrower price limit band is associated with

higher acceleration rates because the likelihood of triggering price limits is greater than under a

wider price limit band. In contrast, a narrower price limit band should be associated with lower

acceleration rates as far as the momentum effect is concerned because larger price movements

within a wider price limit band should trigger stronger speculation and more intense trend-chasing.

Hence, we hypothesize that the momentum effect is prevailed by the magnet effect if the pre-

regime features higher acceleration rates than the post-regime.

Second, we construct quasi limit hits under both regimes and compare quasi limit hits with

actual limit hits. Quasi limit hits in the pre- (post-) regime represent large price movements of 9%

(12%). These price movements are large but not large enough to hit the predefined limits of 12%

(15%) in the pre- (post-) regime.12 We expect that actual limit hits will exhibit higher acceleration

rates than quasi limit hits and the differences would be attributed to the magnet effect.

10
Refer to Jegadeesh and Titman (1993, 2001), Chan et al. (1996), Barberis et al. (1998), Daniel et al.
(1998), Hong and Stein (1999), Conrad and Kaul (1998), Moskowitz and Grinblatt (1999), Grundy and
Martin (2001), among others.
11
In the absence of precise definition of intraday momentum effect, Cho et al. (2003), for example, use an
arbitrary 4% change from opening prices to capture the momentum effect on limit hit days.
12
The cutoff points of 9% in the pre-regime and 12% in the post-regime are arbitrarily chosen. We also used
other cutoff points, such as 10%, 11% in the pre-regime and 13%, 14% in the post-regime. The results remain
qualitatively the same.

12
 Third, we impose hypothetical 12% and 15% price limits on NASDAQ securities. We refer

to these cases pseudo limit hits since there is no price limits on the NASDAQ market. No

differences in acceleration rates between the two hypothetical price limit regimes on the NASDAQ

market confirm that the magnet effect is caused directly by the existence of price limits per se and it

does not exist in markets without price limits.

To summarize, our methodology goes beyond past studies in that we define the magnet

effect in a functional form from a non-linear regression and review the behavior of five market

microstructure variables in three dimensions: the magnitude, acceleration rates, and the persistence

of acceleration. Moreover, we identify the magnet effect while controlling for intraday momentum

effect and confirm that the magnet effect is driven by price limits per se. The empirical results are

reported in Sections 4, 5, and 6.

4. Empirical findings

4.1. Magnitude

We compute the cross-sectional average of five market microstructure variables in each 3-

minute interval during the 30-minute study period and Figure 2 plots their progression for four limit

hit cases. The five variables are defined below and we use the rates of return as an example to

demonstrate the computation. The rates of return at three-minute intervals (MSTRETi defined below)

plotted in Figure 2A are measured as the percentage change between the last transaction prices from

two consecutive intervals.

Upper Limit Hits: RETk ,t ,i = ( Pk ,t ,i − Pk ,t ,i −1 ) / Pk ,t ,i −1

Lower Limit Hits: RETk ,t ,i = ( Pk ,t ,i −1 − Pk ,t ,i ) / Pk ,t ,i −1 13

STRETk ,t ,i = ( RETk ,t ,i − MRETk ,i ) / SDRETk ,i

MSTRETi = ∑ STRETk ,t ,i / N i

13
We take the additive inverse of negative rates of return to make it comparable to positive returns of upper
limit hits.

13
where Pk,t,i is the last transaction price of stock k on day t at interval i. RET k,t,i is the three-minute

rate of return from interval i-1 to interval i on day t for stock k. RETk,t,i is standardized by

subtracting the mean (MRETk,i) and divided by the standard deviation (SDRETk,I) of stock k at

interval i within respective regimes. Lastly, we compute the cross-sectional average of rates of

return (MSTRETi ) for each interval i, where Ni is the number of limit hits in interval i.14

Trading volume, in Figure 2B, is measured by the share volume of transactions during each

interval. We also measure the dollar amount of transactions and the frequency of transactions and

their statistical results are qualitatively similar to those based on share volume. Following Lee et al.

(1994), Corwin and Lipson (2000) and Christie et al. (2002), we use three intraday volatility

measures, the absolute value of returns, high-low price differences and the number of quote

revisions within each three-minute interval. To conserve space, we only report the results based on

absolute returns, ABSRETURN, in Figure 2C.15

Figure 2D plots the share volume of regular order submissions for four limit hit cases. We

focus on the side of the market that ultimately leads to limit hits, which are the buy side for upper

limit hits and the sell side for lower limit hits. We measure order imbalances using the ratio of buy

(sell) orders out of the total amount of submitted orders for upper (lower) limit hits and their results,

not reported here, are qualitatively similar to those of order submissions. Figure 2E plots the share

volume of market orders. Investors can place three types of orders: market orders, limit orders and

limit-or-market-on-close-orders in the KRX, among which market and limit orders combined

compose more than 99% of total orders. We, therefore focus on the choice between the market and

the limit orders. We also investigate the ratio of market orders and their results, not reported here

are qualitatively similar to the results based on the share volume of market orders.

14
We examined several other ways of standardization and the results remain qualitatively the same. Lee et al.
(1994), Corwin and Lipson (2000), and Christie et al. (2002) standardize rates of return as a percentage of the
mean return. Another alternative is to standardize the rate of return as a percentage of its standard deviation,
used in Cho et al. (2003).
15
The other two variables provide similar results.

14
 [Insert Figure 2]

At least three empirical regularities emerge from Figure 2. First, all five market

microstructure variables are significantly positive during the 30-minute pre-hit period and their

magnitude rises as prices approach price limits. Increasing positive values imply that investors

intensify their trading activities when price limits are being approached, consistent with the

predictions of the magnet effect. We characterize the rising pattern of respective variables formally

in the next section.

Second, upper limit hits draw heavier trading volume, greater order flow, and make use of a

greater number of market orders than lower limit hits in the same regime, particularly during the

intervals close to limit hits. The cross-sectional average of three minute trading volume is 1.91 for

pre-up limit hits, compared to 1.23 for pre-down limit hits. It is 1.96 for post-up limit hits,

compared to 0.77 for post-down limit hits. Mean differences of the trading volume, order flow, and

market orders between upper and lower limit hits are statistically significant at 1% level. In contrast,

lower limit hits are associated with higher volatility than upper limit hits in the same regime and the

average three-minute rates of return do not significantly differ. The lack of short sale infrastructure

in the KRX could contribute to heavier volumes of upper limit hits. Investors can capitalize their

positive expectations by placing more buy orders, but the high costs associated with short sales

inhibit the capitalization of negative expectations. As a result, investors are restricted from chasing

a downward trend and fewer transactions take place prior to lower limit hits.16

Third, pre-regime limit hits do not show significantly heavier trading activities than post-

regime limit hits across the 30-minute pre-hit period. However, the trading activities for pre-regime

16
In the KRX, the proceeds from short sales are held by the securities companies as collateral in the margin
account, which is again marked to market on a daily basis. Then the collateral has to be maintained up to a
certain ratio of the extended credit to avoid the margin call. Moreover, securities companies raised the initial
margin requirement and maintenance requirement after the Financial Supervisory Service relaxed relevant
regulations to liberalize the market in March 1998. As a result, the short sales in 1998 and 1999 were
materially none.

15
limit hits tend to become slightly higher than those of post-regime limit hits during the last six to

nine minutes before limit hits.

In summary, we conclude that investors intensify their transactions when limit hits become

imminent. Price variations, trading volume, volatility, order flow and market orders rise

substantially during the 30-minute period prior to limit hits. In addition, the direction of limit hits

has a strong impact on the magnitude of market microstructure variables, while the width of price

limits does not show such an impact.

4.2. Acceleration rates

Acceleration is the most important and direct measure of the magnet effect considering its

self-fulfilling nature. Table 2 reports acceleration rates (γ) of all market variables estimated from

the quadratic function. A 2x2 matrix is created to contrast pre- with post- regimes and upper with

lower limit hits in Panels A, B, and C. The bottom row reports the results of difference tests

between pre- and post-regimes and the last column reports the results of difference tests between

upper and lower limit hits. Panels D and E do not report the comparisons between upper and lower

limit hits and they are not significantly different from each other for respective variables.

One major finding on acceleration rates is that they are sensitive to the width of daily price

limit bands. Acceleration rates estimated using five market microstructure variables are consistently

higher in the pre-regime with a 12% limit band than in the post-regime with a 15% limit band.

Higher acceleration in the pre-regime indicates that the intraday momentum effect is subsumed by

the magnet effect during the 30-minute period prior to limit hits. Therefore, in this section, we can

initially focus on the magnet effect without being concerned about the joint impact of magnet and

momentum effects. In Section 5, however, we explore the possibility of controlling for the intraday

momentum effect using quasi limit hits so that we can isolate a pure “magnet effect.” We report the

results of five market microstructure variables individually in the following five sub-sections.

4.2.1. Rates of return

16
 The rates of return measure price progression. Earlier studies by Gerety and Mulherin

(1992), Subrahmanyam (1994) and Cho et al. (2003) demonstrate that investors will rush onto the

bandwagon when they observe that price limits are being approached. Therefore, we expect to

observe that the rates of return accelerate prior to limit hits if price limits act as magnets.

[Insert Table 2]

We observe from Panel A of Table 2 that all four limit hit cases (pre-up, pre-down, post-up,

and post-down) have significantly positive coefficients and the goodness of fit is fairly strong. To

illustrate, γs are 0.06 for pre-up limit hits, 0.09 for pre-down limit hits, 0.04 for post-up limit hits,

and 0.06 for post-down limit hits, respectively. Positive coefficients of SQINT delineate a convex

function of price variation and support the prediction of the magnet effect.

In addition, we make the comparisons between two regimes and between upper and lower

limit hits. The last row and the last column of Panel A report the F-statistics of the coefficient

comparisons.17 Pre-regime limit hits have significantly higher acceleration rates than post-regime

limit hits for both upper and lower limit hits. Higher acceleration rates in the pre-regime confirm

our hypothesis that the magnet effect prevails over the intraday momentum effect. The narrower

price limits during the pre-regime gives investors less room for continuous trading and implies a

higher likelihood of crossing price limits. Consequently, the cost of non-execution imposed by limit

hits becomes more prominent and investors respond to price limits more frenetically than under a

wider price limit regime. We also observe that lower limit hits have stronger acceleration than

upper limit hits in respective regimes, which could be explained by investors’ over-optimistic

sentiment in connection with the discussion of the acceleration persistence in the next section.

4.2.2. Trading volume

17
Lindley (1957), Leamer (1978) and Connolly (1995) point out the problem related to large sample size in
classical test statistics. Hence, the size-adjusted F-test critical value is [(T-k1)/P][TP/T-1], where T is the
sample size, k1 is the number of parameters estimated under the alternative hypothesis, and P is the number of
restrictions being tested. The size-adjusted critical t-value is (T-k)0.5(T1/T-1). We use the 1% level of
significance as the rejection criterion and our results are robust to the adjustment.

17
 Another important market microstructure variable is liquidity as measured by share trading

volume. Theoretical studies on the magnet effect have predicted heavier trading prior to limit hits.

Subrahmanyam (1994) suggests that investors may sub-optimally advance trades to assure their

ability to trade. According to Gerety and Mulherin (1992), skittish investors overreact and leave the

market in anticipation of the market close. Empirically, Lee et al. (1994) and Kim and Rhee (1997)

document higher trading activities on days subsequent to trading halts and limit hits but their

analyses rely on daily observations.

We expect to observe accelerated trading volume during the pre-hit period. Panel B of

Table 2 reports that all four limit-hit cases demonstrate significantly positive acceleration patterns,

which indicate that increasingly more transactions are drawn to the market as prices approach price

limits. The acceleration rates are 0.10, 0.08, 0.10, and 0.06 for pre-up, post-up, pre-down, and post-

down limit hits. Additionally, pre-regime limit hits feature significantly higher acceleration rates

than post-regime limit hits for both upper and lower cases. Higher acceleration in the pre-regime

confirms that a narrower price limit causes more frenetic transactions in anticipation of price limit

hits as a result of a higher likelihood of crossing price boundaries. It supports our statement that the

magnet effect dominates the intraday momentum effect. The comparisons of acceleration rates

between upper and lower limit hits are insignificant even though upper limit hits attract heavier

trading volume than lower limit hits.

4.2.3. Volatility

Proponents of price limits cite the cooling-off effect as a primary benefit of price limits. For

example, Ma et al. (1989) document attenuated volatility during the post-hit period. Berkman and

Lee (2002) report that the widening of price limits increased long-term volatility and reduced

overall trading volume in the KRX market. However, Gerety and Mulherin (1992) and

Subrahmanyam (1994) suggest the opposite. Lee et al. (1994) and Corwin and Lipson (2000) state

that volatility increases significantly subsequent to trading halts. Kim and Rhee (1997) also

conclude that price limits lead to higher volatility levels on days subsequent to price limit hits. Kim

18
(2001) finds that narrower price limits do not usually lead to lower volatility using daily data of

Taiwan Stock Exchange. But the above studies are confined to daily observations.

More recently, Cho et al. (2003) conclude that the conditional volatility increases prior to

upper limit hits but not prior to lower limit hits. However, it is hard to attribute higher conditional

volatility solely to the magnet effect since they do not effectively isolate the magnet effect from the

momentum effect. In this sub-section, we examine the variation of volatility and expect to observe

rising volatility prior to limit hits.

All four limit-hit cases exhibit significantly positive acceleration rates in volatility as

reported in Panel C of Table 2. The acceleration rates are 0.07, 0.04, 0.13, and 0.10 for pre-up, post-

up, pre-down, and post-down cases, respectively. Rising volatility prior to both upper and lower

limit hits refute the cooling-off effect. What is more notable is that the pre-regime exhibits

significantly higher acceleration rates than the post-regime for both upper and lower limit hits,

consistent with our predictions of the magnet effect, not the cooling-off effect. A narrower price

limit imposes more pronounced non-execution costs to investors, therefore, leads to higher price

variation. In addition, we observe that lower limit hits have significantly higher acceleration rates

than upper limit hits, in line with our earlier findings on the rate of return.

4.2.4. Order flow

The predictions on trading volume can be naturally extended to order flow. If investors

become nervous and sub-optimally submit orders to avoid non-execution, we expect to observe

increasingly high order submissions and high order imbalances during the pre-hit period. In section

4.1, we have observed unusually high order flows during the 30-minute pre-hit period. Panel D of

Table 2 reports the regression results when the dependent variables are buy order volume, buy order

ratio for upper limit hits and sell order volume and sell order ratio for lower limit hits.18

18
We also investigate revised orders during the pre-hit period. In the KRX, only limit orders can be later
revised to better positions, which means that limit buy orders can only be revised to higher prices and/or
higher volumes and limit sell orders can only be revised to lower prices and/or higher volumes. In unreported
results, we find that investors revise their buy orders more often prior to upper limit hits, and revise their sell
orders more often prior to lower limit hits. Their results are qualitatively similar to those of regular orders.
19
 We observe that all the estimated coefficients of SQINT are significantly positive. It

implies that investors place increasingly more orders on one side of the market, which causes larger

order imbalances and ultimately leads to limit hits. The bottom row of Panel D reports the

differences test between two regimes. The pre-regime has significantly higher acceleration rates

than the post-regime for both order flow and order imbalances. For example, the acceleration rate of

pre-up limit hits buy order volume is 0.04, relative to 0.02 for post-up limit hits. Similarly, the

acceleration rate for pre-up limit hits buy order ratio is 0.006, relative to 0.002 for post-up limit hits.

The same relation between the pre- and the post-regime holds true for lower limit hits as well.

Higher acceleration rates in the pre-regime once again support the prevalence of the magnet effect.

In addition, we compare acceleration rates between upper and lower limit hits within the same

regime and do not find significant differences.

4.2.5. Order types

We have observed in section 4.1 that investors choose more market buy (sell) orders prior

to upper (lower) limit hits. The choice between limit and market orders is contingent on their costs

and benefits. Greenwald and Stein (1991) point out that limit orders have two limitations. First,

limit orders carry a risk of non-execution. Second, limit orders leave traders exposed to innovations

in fundamentals that could occur between the time an order is placed and the time it is executed.

Bae et al. (2003) provide additional evidence of the impact of non-execution on order types. They

state that the proportion of limit orders monotonically decreases throughout the trading day because

traders are less likely to submit limit orders when there is little time left until the market closes. A

similar point is made by Goldstein and Kavajecz (2004). They note that the extreme uncertainty

concerning the ability to trade continuously causes market participants to alter their behavior in that

sellers use more market orders and less limit orders during the nine minutes before the trading halt.

Based on Australian stock market experience, Verhoeven et al. (2004) report that the probability of

traders submitting a limit order increases with (i) an increase in the spread; (ii) a decrease in the

20
depth at the best price on the same side; and (iii) an increase in the depth at the best price at the

opposing position.

Price limits virtually close continuous trading and the non-execution cost becomes

increasingly prominent as prices approach price limits. Therefore, we expect that investors will use

more and more market orders to put their orders in the front of the order queue and to avoid the

non-execution costs imposed by price limits. In this sub-section, we report the regression results of

market order share volume and the ratio of market orders out of total orders from the buy side of

upper limit hits and the sell side of lower limit hits.19

From Panel E of Table 2, we find that the acceleration rates (γ) are uniformly positive and

significant for four limit hit cases, demonstrating that investors use increasingly more market orders

in both absolute and relative terms. The pre-regime features significantly higher acceleration than

the post-regime for both upper and lower limit hits. For instance, the acceleration rate for market

sell orders is 0.05 of pre-down limit hits, significantly higher than 0.03 of post-down limit hits. The

acceleration rate of market sell ratio is 0.03 of pre-down limit hits, relative to 0.02 of post-down

limit hits. The same relation between two regimes holds true for upper limit hits, with the only

difference being the statistical significance at 5% level. There are, however, no significant

differences in acceleration rates between upper and lower limit hits within the same regime. Higher

acceleration observed for the use of market orders in the pre-regime reinforces our prediction of the

magnet effect.

4.3. Persistence of acceleration

Sections 4.1 and 4.2 report two dimensions of the magnet effect, the magnitude and

acceleration rates. In this section, we focus on the persistence of acceleration process, the third

dimension of the magnet effect. The persistence is the time period from the minimum point of the

convex function to the moment of limit hit, which is derived from the quadratic functions estimated.

19
We also examined the dollar amount of market orders and the frequency of market orders. The results
remain qualitatively similar.

21
Table 3 reports persistence measurements and the comparisons between two regimes and between

upper and lower limit hits.

[Insert Table 3]

We observe from Table 3 that the acceleration persistence ranges from 17 minutes to 24

minutes for various market microstructure variables. The range of persistence falls into our study

period of 30 minutes, indicating that the acceleration behavior does not occur until price limits have

become in sight and it is unique to a short time period preceding limit hits. When we compare the

persistence between the pre- and the post-regime limit hits of the same direction and between upper

and lower limit hits within the same regime, two empirical regularities emerge. First, the post-

regime has significantly longer persistence than the pre-regime in many cases, and there is not a

single case that the pre-regime has longer persistence than the post-regime. Second, upper limit hits

have longer persistence than lower limit hits in many cases. The only exception is that post-down

limit hits have longer persistence than post-up limit hits when the dependent variable is the market

order ratio.

Using the rates of return as an example, the persistence of 21 minutes observed for post-up

limit hits, is longer than 19.75 minutes of pre-up limit hits. The persistence of 20 minutes observed

for post-down limit hits is also longer than 17.67 minutes of pre-down limit hits. At the same time,

upper limit hits have longer persistence than lower limit hits within the pre- and the post-regime

respectively. Persistence measures for other variables are similar in scale. For example, the

persistence of trading volume is 18.75, 18.45, 21.81, and 19 minutes for pre-up, pre-down, post-up

and post-down limit hit cases, respectively.

Longer persistence in the post-regime could be explained from two reasons that may not be

mutually exclusive. First, the intensity of acceleration is less with wider price limits. In previous

sections, we have documented that all market microstructure variables have significantly lower

acceleration rates in the post-regime than the pre-regime. Second, it takes longer for prices to attain

wider price movements in the post-regime.

22
 The difference between upper and lower limit hits could be explained by investors’ over-

optimistic sentiment. If investors believe that an upward trend tends to persist, liquidity buyers will

hurry to fulfill their liquidity needs in anticipation of a limit hit and speculators will bid up prices

upfront with the expectation of realizing their profits at higher prices. However, when prices are

going down, investors tend to believe it is transitory. Liquidity sellers are likely to wait for the price

reversal until the last chance of execution and speculators will defer locking in their losses as long

as possible. As a result, investors jump onto an upward trend at an earlier stage with relatively mild

acceleration and investors respond to a downward trend at a later stage but in a more concentrated

fashion, resulting to shorter persistence and higher acceleration.

In summary, we conclude that the magnet effect, featured by accelerated trading activities

lasts for about 20 minutes before ultimately triggering price limits. There is some evidence that the

pre-regime has shorter persistence than the post-regime and upper limit hits exhibit longer

persistence than lower limit hits, both with some exceptions.

5. A closer look at the intraday momentum effect

In section 4, we provide consistent evidence of higher acceleration rates in the pre-regime

than in the post-regime. This finding is consistent with the predictions of the magnet effect but not

with those of the momentum effect. The underlying rationale is that the magnet effect implies

stronger acceleration under narrower price limits and the momentum effect implies the opposite

because the momentum effect rises along with the extent of price movements. Hence, we conclude

that the magnet effect is more dominant than the momentum effect during the 30-minute period

before daily limits are hit.

However, one caveat of the regime comparison is that we are comparing two different time

periods and their information sets may differ. To address this empirical difficulty, we rely on quasi

limit hits in the KRX to compare with actual limit hits in the same regime. Quasi limit hits are large

price movements but they are not large enough to hit daily limits. More importantly, the

23
introduction of quasi limit hits allows us to isolate the pure magnet effect after controlling for the

intraday momentum effect.

5.1. Quasi limit hits in KRX

We define quasi limit hits in the pre-regime as 9% price movements before 12% price

limits are triggered. Quasi limit hits in the post-regime are defined as 12% price movements prior to

hitting 15% price limits. In total, we identify 281 quasi upper limit hits and 75 quasi lower limit hits

in the pre-regime; 247 quasi upper limit hits and 114 quasi lower limit hits in the post-regime. All

of our selected quasi limit hits have at least half an hour trading prior to the cutoff moments. Table

4 reports the mean statistics and the regression results. To conserve space, we only report the results

of the rates of return and trading volume. Other variables exhibit similar results.

[Insert Table 4]

From Panel A of Table 4, we observe that the average 3-minute rate of return and trading

volume are significantly positive during the period prior to both types of limit hits in two regimes.

The last three rows of Panel A reports the results of mean difference tests between paired groups. It

is clear that quasi limit hits have significantly lower rates of return and trading volume than actual

limit hits in the same regime. For example, the average 3-minute rate of return for quasi upper limit

hits is 0.65, which compares with 0.85 of actual upper limit hits in the pre-regime. The average 3-

minute trading volume for quasi upper limit hits is 1.18, which is significantly lower than 1.91 of

actual upper limit hits in the pre-regime. The same relation remains valid for all eight paired

comparisons between quasi and actual limit hits. In contrast, only one out of four comparisons

between actual limit hits in two regimes is significant: pre-down limit hits have heavier trading

volume than post-down limit hits.

Lower trading activities prior to quasi limit hits support our hypothesis that binding price

limits have the magnet effect for actual limit hits. We therefore attribute the differences between

quasi limit hits and actual limit hits to the magnet effect in the latter group. For the purpose of

completeness, we compare upper and lower quasi (actual) limit hits within the same regime and

24
find that an upward-trending market attracts more trading volume than a downward-trending

market. The differences in the rate of return are not significant except that quasi lower limit hits

have stronger rates of return than quasi upper limit hits in the post-regime.

Panel B of Table 4 reports the regression results from the quadratic function for quasi limit

hits. Both upper and lower quasi limit hits exhibit significant acceleration in rates of return and

trading volume. At the bottom of Panel B, we reiterate the coefficient estimates of γ for various

limit hit cases and compare the acceleration rates between quasi limit hits and actual limit hits.

Quasi limit hits have significantly lower acceleration rates than actual limit hits in the same regime

for all eight comparisons. For example, the acceleration rate estimated using rates of return is 0.04

for quasi upper limit hits in the pre-regime, significantly lower than 0.06 for pre-up limit hits.

Trading volume accelerates at 0.03 for quasi lower limit hits in the pre-regime, compared with 0.10

for pre-down limit hits. The observed differences in acceleration rates between actual and quasi

limit hits may be considered as the impact of the pure magnet effect after the intraday momentum

effect is controlled for. Hence, we conclude that the magnet effect becomes pronounced when price

limits are imminent.

Another useful comparison can be made between post-regime quasi limit hits and pre-

regime limit hits. Because both groups have the same amount of price movements, their differences

could be attributed to binding price limits in the latter group. We observe from Panel A that post-

regime quasi limit hits have lower trading activities than pre-regime limit hits, and Panel B

indicates that the acceleration rate of post-regime quasi limit hits is lower than those of pre-regime

limit hits. Lower acceleration rates of quasi limit hits in the post-regime than those of actual limit

hits in the pre-regime suggest that the magnet effect is taking effect for the later group. In addition,

we compare the acceleration rates between quasi upper and lower limit hits and find that quasi

lower limit hit have higher acceleration in rates of return but not in trading volume. It is consistent

with our earlier findings on actual limit hits.

25
 In summary, quasi limit hits have smaller rates of return, lower trading volume, and

weaker acceleration of both variables than actual limit hits in respective regimes. We attribute less

intensive trading activities prior to quasi limit hits than actual limit hits to the lack of the magnet

effect because price limits are not binding for quasi limit hits. In addition, the extent of price

movement can not explain the fact that pre-regime limit hits have consistently higher acceleration

than both post-regime quasi limit hits and post-regime actual limit hits. We conclude that the

magnet effect becomes pronounced when prices get close to price limits and the extent of the

magnet effect is governed by the width of price limit band. We use the NASDAQ as an example

below to illustrate that there is no magnet effect in a market without price limits.

5.2. Pseudo limit hits in NASDAQ

The identification of the magnet effect has been based on the differences between limit hits

in two regimes and between quasi and actual limit hits. We find significant differences in these

comparisons and attribute them to the existence of the magnet effect and the width of price limits.

These comparisons are meaningful in a market with the daily price limit system in place, but

another interesting test can be conducted for a market without price limits. We choose the

NASDAQ for our experiment because it does not have price limits and it has more similarities with

the KRX-listed stocks in terms of firm size, price level, and investor profiles than the NYSE.

To construct a scenario identical to the two price limit regimes in KRX, we impose

hypothetical price limits of 12% and 15% on price movements of the NASDAQ securities

respectively and label them as pseudo limit hits. The underlying idea for a test using the market

without the price limit system is intuitive. In the absence of price limits, any trading behavior we

could observe in the NASDAQ should be attributed to intraday momentum and, as a result, we

expect no significant differences between pseudo limit hits, in contrast to significant differences in

acceleration rates between the pre- and the post-regime in the KRX. Pseudo limit hit based

approach allows us to avoid making cross-country comparisons which are virtually impossible

unless fundamental differences between the KRX and the NASDAQ are adequately controlled.

26
 The study period of the NASDAQ securities is from September 1 to December 31, 1998.

Our sample consists of 587 common stocks with the average number of daily transactions of 100 or

greater and the average price is greater than $5 to avoid any distortion caused by penny stocks.20

The intraday transaction data are retrieved from the Trade and Quote (TAQ) database and the filters

in Bessembinder (2003) are adopted to eliminate the errors in the dataset. Then we identify pseudo

upper and lower limit hits in the 12% and 15% regimes respectively.21 In total, we come up with

540 upper limit hits and 367 lower limit hits under the 12% price limits and 276 upper limit hits and

143 lower limit hits under the 15% price limits. Table 5 reports the results based on rates of return

and trading volume during the 30-minute period prior to pseudo limit hits.

[Insert Table 5]

Panel A of Table 5 reports average three-minute rate of return and trading volume prior to

pseudo limit hits. We observe that price variations and trading volume increase prior to pseudo

limit hits, consistent with the notion that large price movements are associated with heavier trading

volume. We also observe that pseudo limit hits in the 15% price limit regime have greater price

variations than those in the 12% price limit regime and trading volume between two regimes does

not show significant differences. These results are different from what we observe from the pre-

and the post- regimes in KRX, where the rates of return do not show significant differences. There

is also evidence that an upward market draws more trading volume than a downward market and

pseudo lower limit hits have more price variation than pseudo upper limit hits in respective regimes,

consistent with the results in the KRX.

20
The U.S. Securities and Exchange Commission defines penny stocks trading at prices below $5.00. Ball et
al. (1995) report that the problem in measuring contrarian portfolio returns is most severe because i)
contrarian portfolios invest in extremely low-priced ‘loser” stocks; and (ii) microstructure-related biases in
measured returns are most pronounced at the calendar year-end, which is usually when contrarian portfolios
are formed.
21
We use more flexible cutoff points, (11.5%, 12.5%) and (14.5%, 15.5%) for pseudo upper limit hits, and (-
12.5%, -11.5%), (-15.5%, -14.5%) for pseudo lower limit hits in two regimes respectively. We do not use the
exact cutoff at 12% and 15% because the number of pseudo limit hits based on exact cutoffs is fairly small.
The results based on exact cutoffs are qualitatively similar to our reported results.

27
 Panel B reports the estimated coefficients of SQINT for respective pseudo limit hits cases.

We observe that all the coefficients are significantly positive except for trading volume of 15%

pseudo upper limit hits. Even though positive coefficients support the momentum effect, the most

important finding is that the two pseudo limit hit regimes do not exhibit significant differences in

estimated acceleration rates as indicated in the bottom row of Panel B. In comparison, the pre-

regime features significantly higher acceleration rates in all market variables than the post-regime

in the KRX with the price limit system in place.

Therefore, we conclude that the lack of price limits in the NASDAQ explains the

insignificant differences between the two pseudo limit hit regimes. It supports our argument that the

magnet effect is led by price limits per se, not by large price movements. And the magnet effect is

unique to markets with price limits. Hence, positive acceleration rates on the NASDAQ market

reflect the intraday momentum effect.

6. Firm size effect

We have documented the existence of the magnet effect from various aspects in earlier

sections of the paper. In this section, we demonstrate that the magnet effect is robust to firm

specific characteristics. We categorize our sample of limit hits that occurred before 2:50 P.M. into

three capitalization groups: small-, medium-, and large-cap. There are 973, 172, 253 upper limit hits

and 208, 37, 34 lower limit hits for the small-, medium-, and large-cap groups in the pre-regime.

There are 839, 169, 201 upper limit hits and 340, 80, 50 lower limit hits in the post-regime for the

small- to the large-cap groups. As summarized in Panel A of Table 6, small-cap stocks have the

highest average limit hits per stock among three capitalization groups. High probability of limit hits

for small-cap stocks is consistent with the findings reported by earlier studies. Kim and

Limpaphayom (2000) report that volatile stocks and small-cap stocks hit price limits more often

than other stocks. Chen et al. (2005) report that illiquid stocks with wide bid-ask spreads hit price

limits more often than liquid stocks.

[Insert Table 6]

28
 Panel A of Table 6 reports standardized rates of return and trading volume for

capitalization stratified limit hits during the pre-hit period. We observe that the cross sectional

average is significantly positive for all limit hits. In addition, we compare mean differences among

capitalization groups and find that small-cap stocks have significantly lower trading volume than

large-cap stocks for both upper and down limit hits. However, there is no consistent pattern in rates

of return among capitalization stratified groups.

Panel B of Table 6 reports estimated coefficients of SQINT where dummy variables are

introduced to identify three size groups. All the estimated coefficients are significantly positive,

indicating that the acceleration pattern is not subject to stock capitalization. No significant

differences in acceleration rates of trading volume are observed between small- and large-cap

stocks for four limit hit cases. There is no consistent relation for the acceleration rates estimated

using the rates of return either. For instance, small-cap stocks show a lower acceleration rate in

rates of return than large-cap stocks for pre-up limit hits. However, small-cap stocks exhibit a

higher acceleration rate in rates of return than large-cap stocks for post-down limit hits.

We therefore, conclude that the magnet effect is not driven by firm characteristics. The

magnet effect stands out significantly across stocks of various market capitalizations and the

magnet effect is not confined to a particular group of stocks.

7. Conclusion

In this paper, we use KRX tick-by-tick data and limit order book to examine the presence

of the magnet effect. We introduce five market microstructure variables (rates of return, trading

volume, volatility, order flow and order types) to define the magnet effect in a time-series quadratic

function over the 30-minute period prior to limit hits. While so doing, we provide strong evidence

of the intraday accelerating nature of the magnet effect in three dimensions: magnitude;

acceleration rates; and persistence of acceleration.

We find that investors alter their trading behavior as security prices approach either upper

ceiling or lower floor price limit. Approximately twenty minutes prior to limit hits represent a

29
critical period when investors exhibit an unusual trading behavior to assure order executions.

Specifically, they place an increasing number of buy (sell) orders when prices approach upper

(lower) limit. Investors also choose disproportionately more market buy (sell) orders when an upper

(lower) limit hit becomes imminent. As a result, the rates of return, trading volume and volatility

accelerate prior to limit hits.

In addition, we distinguish the magnet effect from the intraday momentum effect by

making two sets of comparisons. First, we find that the pre-regime with 12% price limits has

greater acceleration rates than the post-regime with 15% price limits. Since the magnet effect

predicts higher acceleration in the pre-regime, while the momentum effect predicts the opposite, our

empirical evidence indicates that the momentum effect is subsumed by the magnet effect in the 30-

minute period prior to limit hits. Second, we introduce quasi limit hits on actual limit hit days in

two regimes and compare quasi limit hits and actual limit hits. Lower acceleration rates and weaker

market activities of quasi limit hits support that the magnet effect is led by the existence of price

limits, not by large price movements.

To strengthen our results, we impose pseudo price limits on the NASDAQ market where no

price limit system is in place. We demonstrate that no differences in acceleration rates exist

between the 12% and 15% pseudo limit hits on the NASDAQ market. The lack of difference

between the two regimes in the NASDAQ reinforces our belief that the magnet effect is driven by

price limits per se and is therefore unique to markets with price limits, while the acceleration rates

observed on the NASDAQ market are simply an indication of the intraday momentum effect.

Moreover, this paper examines the reactions to price limits under different market

conditions. We conclude that the direction of limit hits has a significant impact on the trading

intensity. Upper limit hits often feature heavier trading volume, more order submissions, and more

use of market orders than lower limit hits, while lower limits hits are associated with greater

changes in prices and volatility. Upper limit hits also exhibit slightly longer persistence than lower

limit hits. Investor psychology and the limited availability of short sales in the KRX may explain

30
these differences between upper and lower limit hits. In the end, this paper presents that the magnet

effect is robust to firm characteristics. Stocks with small, medium and large market capitalization

uniformly exhibit significant magnet effect.

31
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35
Table 1
Descriptive statistics

Price limit hits are identified as instances when prices reach the floor or ceiling prices governed by
daily price limits. The study period is from September 1, 1998 to March 31, 1999 in Korea Stock Exchange.
The pre-regime is from September 1 to December 6, 1998 when price limit is 12% and the rest of the period
is the post-regime when the price limit is 15%. The sample of limits hits are groups in four categories: the
pre-up, the pre-down, the post-up, and the post-down limit hits, with the prefix representing the regime and
the suffix representing the direction of limit hits.
Panel A of Table 1 presents the distribution of limit hits. It lists the counts of total limit hits; average
daily limit hits; limits hits that occurred in the morning and the afternoon sessions respectively; limit hits that
occurred at market open; limit hits that lock at limit prices until the market closes; and cases of price
continuation and reversal. If a limit hit locks at the upper (lower) limit price and the subsequent first non-
limit-hit day opens at a higher (lower) price, we define it as a price continuation. A price reversal is identified
if the market reopens at a lower (higher) price subsequent to a locked upper (lower) limit hit day. We also
report the percentage of each item out of the total number of limit hits. The percentage of price continuation
and reversals are based on the counts of locked limit hits. Percentages are reported in parentheses.
Panel B of Table 1 presents intraday statistics of limit hits. We present the mean, the median and the
maximum of three variables: 1) number of limit hits per day; 2) duration of limit hits, defined as the time
period from the first moment of limit hits to the last moment that prices stay at limit prices; 3) number of limit
hits by an individual stock that has at least one limit hit in the study period. The medians are reported in
parentheses and the maximums are reported in brackets.

Panel A
Limit hits distribution

PRE-UP PRE-DOWN POST-UP POST-DOWN

Total Limit Hits 1449 300 1219 492
Daily Limit Hits 18.1 3.8 16.5 6.6
Morning Limit Hits 870 (60%) 140 (47%) 744 (61%) 234 (48%)
Afternoon Limit Hits 579 (40%) 160 (53%) 475 (39%) 258 (52%)
Limit Hits at Market Open 244 (17%) 42 (14%) 148 (12%) 91 (18%)
Locked Limit Hits 975 (67%) 139 (46%) 794 (65%) 267 (54%)
Price Continuation 776 (80%) 73 (53%) 610 (77%) 177 (66%)
Price Reversal 118 (12%) 46 (33%) 115 (14%) 73 (27%)

Panel B
Intraday statistics

PRE-UP PRE-DOWN POST-UP POST-DOWN

5.4 5.1 8.4 5.2
Multiple Limit Hits Per Day (4) (2) (5) (3)
[94] [90] [288] [75]
82 50 62 93
Duration of Limit Hits (Minutes) (57) (11) (30 (32)
[242] [240] [300] [302]
5.2 2.4 4.1 2.3
Limit Hits by Individual Stocks
(4) (2) (3) (2)
[21] [7] [14] [11]

36
Table 2
Acceleration rates of market microstructure variables

Panels A through E of Table 2 report the estimated acceleration rates of five market microstructure
variables from the quadratic function in the main text. The dependent variables of the quadratic function are
the rate of return in Panel A, trading volume in Panel B, market volatility in Panel C, order flow [the share
volume and the ratio of buy (sell) orders on upper (lower) limit hit days] in Panel D, and market orders [the
share volume and the ratio of market buy (sell) orders on upper (lower) limit hit days] in Panel E. The
independent variables are INT and SQINT. INT takes the value of 1 to 10, from the furthest to the closest
3-minute interval prior to limit hits. SQINT is the squared INT. The acceleration rate is defined as the
coefficient of SQINT in the quadratic function.
In each table, we report the estimated coefficients of SQINT (γ), its standard errors, and adjusted
R2. We select limit hits that occur before 2:50PM to avoid the last 10 minute call auction period. All
dependent variables are standardized by their mean and standard deviation of non-limit-hit days. F-tests
report the coefficient comparison between the pre- and the post-regimes for all five market microstructure
variables and between upper and lower limit hits for rates of return, trading volume and volatility. Standard
errors are reported in parentheses. P-values of F-tests are reported in brackets. All coefficient estimations
are significant at 1% level.

Panel A
Rates of return

F-TEST
γ UPPER LIMIT HITS LOWER LIMIT HITS
(Upper vs. Lower)
PRE REGIME 0.06 (0.002) 0.09 (0.01) 32.95 [<0.0001]
POST REGIME 0.04 (0.002) 0.06 (0.004) 17.44 [<0.0001]
Adjusted R2 0.34 0.32
F-TEST
Pre-regime vs. Post-regime 32.22 [<0.0001] 17.43 [<0.0001]

Panel B
Trading volume

F-TEST
γ UPPER LIMIT HITS LOWER LIMIT HITS
(Upper vs. Lower)
PRE REGIME 0.10 (0.01) 0.10 (0.01) 0.09 [0.76]
POST REGIME 0.08 (0.01) 0.06 (0.01) 1.39 [0.24]
Adjusted R2 0.13 0.15
F-TEST
Pre-regime vs. Post-regime 4.58 [0.03] 9.16 [0.003]

37
Panel C
Volatility

F-TEST
γ UPPER LIMIT HITS LOWER LIMIT HITS
(Upper vs. Lower)

PRE REGIME 0.07 (0.002) 0.13 (0.01) 103.46 [<0.0001]

POST REGIME 0.04 (0.002) 0.10 (0.01) 200.05 [<0.0001]
Adjusted R2 0.26 0.28
F-TEST
Pre-regime vs. Post-regime 57.49 [<0.0001] 12.82 [0.0003]

Panel D
Order flow

UPPER LIMIT HITS LOWER LIMIT HITS

γ BUY VOLUME BUY RATIO SELL VOLUME SELL RATIO

PRE REGIME 0.04 (0.002) 0.006 (0.001) 0.04 (0.01) 0.01 (0.002)
POST REGIME 0.02 (0.002) 0.002 (0.001) 0.02 (0.004) 0.006 (0.003)
2
Adjusted R 0.38 0.29 0.22 0.24
F-TEST
Pre-regime vs.
15.26 [<0.0001] 32.28 [<0.0001] 21.27 [<0.0001] 16.93 [<0.0001]
Post-regime

Panel E
Market order

UPPER LIMIT HITS LOWER LIMIT HITS

MK BUY MK SELL
γ MK BUY RATIO MK SELL RATIO
VOLUME VOLUME
PRE REGIME 0.05 (0.003) 0.03 (0.002) 0.05 (0.006) 0.03 (0.004)
POST REGIME 0.04 (0.003) 0.02 (0.002) 0.03 (0.005) 0.02 (0.003)
Adjusted R2 0.29 0.18 0.25 0.16
F-TEST
Pre-regime vs.
3.81 [0.05] 3.91 [0.05] 6.63 [0.01] 8.16 [0.004]
Post-regime

38
Table 3
Persistence of acceleration

Table 3 reports the persistence measurements of market microstructure variables during the
process of acceleration. Persistence is measured as the time period from the minimum point of the convex
function onward to the moment of limit hit, stated in number of minutes. Numerically, it is calculated as
3(10+β/(2γ)), where β is the coefficient of INT and γ is the coefficient of SQINT from the quadratic
function. In addition, we compare persistence measurements between the pre- and the post-regimes and
between upper and lower limit hits. Delta method is used to compute the approximate standard errors for
the comparisons. > and < shows the direction of the comparisons that are significant at 5% level. =
indicates that the comparisons of two paired groups are insignificant at 5% level.

Upper vs. Lower

Variables Pre-Up Post-Up Pre-Down Post-Down
Pre- Post-
regime regime
Rate of Return 19.75 < 21.00 17.67 < 20.00 > =

Trading Volume 18.75 < 20.81 18.45 = 19.00 = >

Market Volatility 18.00 = 19.13 17.19 < 19.35 = =

Order Flow Share 22.88 = 22.50 19.88 < 24.00 > =

Order Flow Ratio 22.50 = 22.50 19.50 = 20.00 > >

Market Order Share 20.10 = 20.63 18.90 = 19.50 > >

Market Order Ratio 21.00 = 21.00 18.00 < 23.25 > <

39
Table 4
Quasi limit hits in Korea Stock Exchange

Quasi limit hits are defined as large price movements that occur before triggering price limits on
limit hit days. In the pre-regime, quasi limit hits are cases that prices move 9% from the previous day’s
closing price before actually triggering 12% price limit. We identify 281 quasi upper limit hits and 75 quasi
lower limit hits during the pre-regime. Likewise, we define post-regime quasi limit hits as cases that prices
move 12% before hitting 15% price limits. 257 quasi upper limit hits and 114 quasi lower limit hits are
identified in the post-regime. Table 4 presents the statistics for quasi limit hits in respective groups. All
values are standardized by their mean and standard deviation of non-limit-hit days.
Panel A reports the cross-sectional average of 3-minute rate of return and trading volume during
half hour period before quasi limit hits and actual limit hits. The bottom three rows of Panel A report the
mean differences between quasi limit hits and actual limit hits within the same regime and between actual
limit hits of two regimes. We also compare quasi (actual) upper and lower limit hits within the same regime.
Values in brackets are the P-values of T-tests between paired groups. Panel B reports the estimated
coefficients of SQINT for respective quasi limit hit groups. The bottom two rows in Panel B reiterate the
acceleration rates of respective limit hits and report the comparison between quasi limit hits and actual limit
hits within each regime. Standard errors are reported in parentheses. Values in brackets are the P-values of
the F-tests. The mean values in Panel A and estimations in Panel B are all significant at 1% level.

Panel A
Summary statistics
RETURN VOLUME
UPPER LOWER T-TEST UPPER LOWER T-TEST
PRE QUASI LIMIT HITS 0.65 0.64 [0.43] 1.18 0.64 [<0.0001]
POST QUASI LIMIT HITS 0.32 0.78 [<0.0001] 1.36 0.43 [<0.0001]
PRE LIMIT HITS 0.85 0.85 [0.82] 1.91 1.23 [<0.0001]
POST LIMIT HITS 0.82 0.91 [0.25] 1.96 0.77 [<0.0001]
T-TEST
PRE QUASI vs. PRE HIT [<0.0001] [<0.0001] [<0.0001] [<0.0001]
POST QUASI vs. POST HIT [<0.0001] [<0.0001] [<0.0001] [<0.0001]

PRE HIT vs. POST- HIT [0.14] [0.21] [0.28] [<0.0001]

Panel B
Regression results
RETURN VOLUME
γ UPPER LOWER UPPER LOWER
PRE QUASI LIMIT HITS 0.04 (0.004) 0.06 (0.01) 0.03 (0.005) 0.03 (0.01)
Adjusted R2 0.13 0.12 0.12 0.05
POST QUASI LIMIT HITS 0.02 (0.002) 0.04 (0.01) 0.04 (0.004) 0.01 (0.01)
Adjusted R2 0.05 0.11 0.11 0.04
F-TEST
PRE QUASI vs. PRE HIT 0.06 [<0.0001] 0.09 [<0.0001] 0.10 [<0.0001] 0.10 [<0.0001]
POST QUASI vs. POST HIT 0.04 [<0.0001] 0.06 [0.03] 0.08 [<0.0001] 0.06 [<0.0001]

40
Table 5
Pseudo limit hits in NASDAQ

We impose hypothetical 12% and 15% price limits to the NASDAQ securities and identify the
days that trigger these price limits, which are defined as pseudo limit hits. There are 540 upper limit hits
and 367 lower limit hits under the hypothetical 12% price limit and 276 upper limit hits and 143 lower limit
hits under the hypothetical 15% price limit. Table 5 reports the statistics of rates of return and trading
volume for pseudo limit hits in respective groups. All values are standardized by their mean and standard
deviation of non-limit-hit days.
Panel A reports the cross-sectional average of 3-minute rate of return and trading volume during
the half hour pre-hit period. We report T-test of the mean comparison between pseudo limit hits in two
hypothetical regimes and between upper and lower pseudo limit hits. Panel B reports the estimated
coefficients of SQINT from the quadratic regression, where the dependent variables are the rate of return
and trading volume respectively. We compare the acceleration rates between 12% pseudo limit hits and
15% pseudo limit hits. F-statistics and P-values are reported at the bottom of Panel B. P-values are reported
in brackets. Standard errors are reported in parentheses. All the mean values in Panel A and coefficient
estimates in Panel B are significant at 1% level unless marked by +.

Panel A
Summary statistics

RETURN VOLUME
UPPER LOWER t-TEST UPPER LOWER t-TEST
PSEUDO 12% LIMIT HITS 2.41 2.75 [0.06] 4.55 3.36 [0.03]
PSEUDO 15% LIMIT HITS 2.8 3.66 [0.02] 5.17 3.62 [0.001]
T-TEST

Pseudo 12% vs. Pseudo 15% [0.05] [0.01] [0.31] [0.53]

Panel B
Regression results

RETURN VOLUME

γ UPPER LOWER UPPER LOWER

PSEUDO 12% LIMIT HITS 0.22 (0.02) 0.29 (0.02) 0.16 (0.06) 0.11 (0.03)
PSEUDO 15% LIMIT HITS 0.24 (0.02) 0.35 (0.03) 0.11 (0.09) +
0.15 (0.05)

Adjusted R2 0.18 0.19 0.02 0.08

F-TEST
Pseudo 12% vs. Pseudo 15% 0.62 [0.43] 2.10 [0.15] 0.25 [0.62] 0.70 [0.40]

41
Table 6
Firm size effect
The sample stocks are divided into the small-, the medium-, and the large-cap stocks based on the
standards in the Korea Stock Exchange fact book. Small-cap stocks have market capitalization less than 35
billion won on September 1, 1998. Medium-cap stocks have market capitalization between 35 billion won
and 75 billion won. Large-cap stocks have market capitalization above 75 billion won. There are 220 small-
sized stocks, 77 medium-sized stocks and 88 large-sized stocks.
Table 6 reports the statistics of price limit hits stratified by capitalizations. Panel A reports the
number of limit hits, cross-sectional average of 3-minute rate of return and trading volume during the half
hour period prior to limit hits. The average number of limit hits per stock is reported in parentheses. T-tests
report the mean comparison between the small- and the large-cap stocks. Panel B reports the estimated
acceleration rates for respective groups. Standard errors are reported in parentheses. At the bottom of Panel
B, we report the comparisons of estimated coefficients between the small- and the large-cap limit hits. P-
values are reported in brackets. All the mean values in Panel A and coefficient estimations in Panel B are
significant at 1% level.
Panel A
Summary statistics
NO. OF
RETURN VOLUME
OBSERVATIONS
UPPER LOWER UPPER LOWER UPPER LOWER
PRE-REGIME
Small-Cap 973 (4.4) 208 (0.9) 0.80 0.89 1.49 0.75
Medium-Cap 172 (2.2) 37 (0.5) 0.93 0.76 2.06 1.16

Large-Cap 253 (2.9) 34 (0.4) 0.99 1.00 2.24 1.71

T-Tests [0.0001] [0.58] [0.0001] [0.04]
POST-REGIME
Small-Cap 839 (3.8) 340 (1.5) 0.72 0.90 1.45 0.44
Medium-Cap 169 (2.2) 80 (1.0) 0.82 1.03 2.16 0.59
Large-Cap 201 (2.3) 50 (0.6) 0.80 1.20 1.88 0.84
T-Tests [0.08] [0.01] [0.001]) [0.001]
Panel B
Regression results
RETURN VOLUME
UPPER LOWER UPPER LOWER
γ PRE POST PRE POST PRE POST PRE POST

0.05 0.03 0.10 0.07 0.10 0.08 0.10 0.07

Small-Cap
(0.003) (0.003) (0.01) (0.005) (0.005) (0.01) (0.01) (0.01

0.07 0.03 0.05 0.07 0.13 0.09 0.09 0.05

Medium-Cap
(0.01) (0.01) (0.02) (0.01) (0.01) (0.03 (0.03) (0.01)

0.07 0.04 0.11 0.02 0.11 0.09 0.16 0.07

Large-Cap
(0.005) (0.005) (0.02) (0.01) (0.01) (0.03 (0.03) (0.02

Adjusted R2 0.38 0.30 0.34 0.32 0.33 0.06 0.15 0.12

F-TEST
Small- vs. Large-cap [0.006] [0.11] [0.18] [0.003] [0.33] [0.55] [0.09] [0.95]

42
Panel A. Pre-regime

Counts
450
400
350
300
250
200
150
100
50
0
9:30- 10:00- 10:30- 11:00- 1:00- 1:30- 2:00- 2:30-
Interval
10:00 10:30 11:00 11:30 1:30 2:00 2:30 3:00

Panel B. Post-regime

Counts

450
400
350
300
250
200
150
100
50
0
9:00- 9:30- 10:00- 10:30- 11:00- 11:30- 1:00- 1:30- 2:00- 2:30-Interval
9:30 10:00 10:30 11:00 11:30 12:00 1:30 2:00 2:30 3:00

Fig. 1.
Intraday distribution of price limit hits

Price limit hits are identified as instances when prices reach the floor or ceiling prices governed by daily
price limits. The study period is from September 1, 1998 to March 31, 1999 in Korea Stock Exchange. The
pre-regime is from September 1 to December 6, 1998 when price limit is 12% and the rest of the period is
the post-regime when the price limit is 15%. The sample of limits hits are groups in four categories: the
pre-up, the pre-down, the post-up, and the post-down limit hits, with the prefix representing the regime and
the suffix representing the direction of limit hits. Figure 1 A-B plots the distribution of price limit hits
during each half hour period within a trading day. The morning trading session in the pre-regime is 9:30
A.M. - 11:30 A.M. and it is 9:00 A.M. - 12:00 Noon in the post-regime. The afternoon trading session is
1:00 P.M. - 3:00 P.M. in both regimes. The bars on the left represent upper limit hits and the bars on the
right represent lower limit hits.

43
Panel A
Rate of Return

4.5
4
3.5
3
2.5
2
1.5
1
0.5
0
1 2 3 4 5 6 7 8 9 10
Interval

Panel B
Trading Volume

0
1 2 3 4 5 6 7 8 9 10
Interval

Panel C
Volatility

7
6

5
4
3
2
1
0
1 2 3 4 5 6 7 8 9 10
Interval

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Panel D
Order Flow

2.5

1.5

0.5

0
1 2 3 4 5 6 7 8 9 10
Interval
Panel E:

Market Order

3.5

2.5

1.5

0.5

0
1 2 3 4 5 6 7 8 9 10
Interval

Pre-Up Pre-Down Post-Up Post-Down

Fig. 2.
Behavior of market microstructure variables prior to limit hits

Price limit hits are identified as instances when prices reach the floor or ceiling prices governed by
daily price limits. The study period is from September 1, 1998 to March 31, 1999 in Korea Stock Exchange.
The pre-regime is from September 1 to December 6, 1998 when price limit is 12% and the rest of the
period is the post-regime when the price limit is 15%. The sample of limits hits are groups in four
categories: the pre-up, the pre-down, the post-up, and the post-down limit hits, with the prefix representing
the regime and the suffix representing the direction of limit hits. Figure 2 A-E plots the cross sectional
average of five market microstructure variables during each 3-minute interval prior to limit hits. The
variables are rate of return, trading volume, volatility, order submission (buy orders on upper limit hit days
and sell orders on lower limit hit days), and volumes of market orders (market buy orders on upper limit hit
days and market sell orders on lower limit hit days). All the values are standardized by subtracting the
mean and dividing by the standard deviation on non-limit-hit days.

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