What affects the cool-off duration under price limits?

Price limits supposedly provide a cool-off period that allows investors to reassess the market conditions. They represent an implementation risk, a special form of arbitrage risk, that impedes arbitrageurs from engaging in arbitrage activities to correct for potential mispricing. We conjecture that the cool-off period would be lengthier for stocks that are subject to higher degrees of arbitrage risk and investor sentiment, and that the effect of arbitrage risk is stronger in up-limit hits because of higher short-sale restriction involved. Based on a sample of intraday data from the Taiwan Stock Exchange, we find that stocks with smaller capitalizations and higher idiosyncratic risk tend to have longer limit-hit durations, consistent with the behavioral argument. The empirical results have important policy implications for stock market regulations.

► This paper empirically examines the determinants of limit-hit durations. ► Based on the theories on arbitrage risk, we propose three behavioral hypotheses. ► Small cap and high idiosyncratic-risk stocks have longer limit-hit durations. ► Empirical evidence indicates that limit hits are affected by behavioral forces.