Price Destabilizing Speculation: The Role of Strategic Limit Orders

We show that under quantity competition with only a few strategic sellers; a large speculator with access to storage facilities can destabilize prices and profit from it. Through clever use of a combination of limit and market orders; the speculator lowers the price while buying and raises the price while selling. This creates price volatility even though there is no fundamental uncertainty in the economy and all market participants act rationally. When the speculator can freely dispose of parts of his acquired inventory; the speculator trades using a combination of limit; market; and stop-loss order; and the resulting market price is even more volatile. We show that if the number of strategic sellers is large the consumers are worse-off in aggregate welfare terms.