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on Market Microstructure |
| By: | Marc van Kralingen (Aegon N.V.); Diego Garlaschelli (Lorentz Institute); Karolina Scholtus (Erasmus University); Iman van Lelyveld (Vrije Universiteit Amsterdam) |
| Abstract: | Crowded trades by similarly trading peers influence the dynamics of asset prices, possibly creating systemic risk. We propose a market clustering measure using granular trading data. For each stock the clustering measure captures the degree of trading overlap among any two investors in that stock. We investigate the effect of crowded trades on stock price stability and show that market clustering has a causal effect on the properties of the tails of the stock return distribution, particularly the positive tail, even after controlling for commonly considered risk drivers. Reduced investor pool diversity could thus negatively affect stock price stability. |
| Keywords: | crowded trading, tail-risk, financial stability |
| JEL: | G02 G14 G20 |
| Date: | 2020–02–04 |
| URL: | http://d.repec.org/n?u=RePEc:tin:wpaper:20200007&r=all |
| By: | Takatoshi Ito; Kenta Yamada; Misako Takayasu; Hideki Takayasu |
| Abstract: | With the high-frequency data of firm quotes in the transaction platform of foreign exchanges, arbitrage profit opportunities—in the forms of a negative bid-ask spread of a currency pair and triangular transactions involving three currency pairs—can be detected to emerge and disappear in the matter of seconds. The frequency and duration of such arbitrage opportunities have declined over time, most likely due to the emergence of algorithmic trading. When a human trader detects such an arbitrage opportunity and places orders for multiple transactions—two in negative spreads and three in triangular arbitrage—there is no guarantee all of those orders are fulfilled in a fraction of one second. Thus, the arbitrageur has to consider execution risk, when he/she/it detects the emergence of such an opportunity. The novelty of this paper is to show that those arbitrage opportunities were exploitable and executable, before the mid-2000s, even considering the transactions costs and execution risk. After many algorithmic computers were allowed to be connected directly to the EBS transaction platform in the mid-2000s, the frequency of free lunch cases has declined and probabilities of successful executions of all legs for arbitrage declined. We calculate the change in the expected profit of an attempt to execute necessary transactions to reap benefits from arbitrage opportunity. |
| JEL: | F31 G12 G14 G15 G23 G24 |
| Date: | 2020–01 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:26706&r=all |
| By: | Tobias Adrian; Nina Boyarchenko; Or Shachar |
| Abstract: | Regulatory reforms since the financial crisis have sought to make the financial system safer and severe financial crises less likely. But by limiting the ability of regulated institutions to increase their balance sheet size, reforms?such as the Dodd-Frank Act in the United States and the Basel Committee's Basel III bank regulations internationally?might reduce the total intermediation capacity of the financial system during normal times. Decreases in intermediation capacity may then lead to decreased liquidity in markets in which the regulated institutions intermediate significant trading activity. While recent commentary by market participants claims that this is indeed the case?a Wall Street Journal article [subscription required] notes that ?three-quarters of institutional bond investors say that liquidity provided by bond dealers has declined in the past year...??empirical studies have struggled to find evidence supporting this narrative. In this post, we summarize the findings of our recent article in the Journal of Monetary Economics that addresses the apparent disconnect between the market-participant commentary and the empirical evidence by focusing on the relationship between bond-level liquidity and financial institutions? balance sheet constraints. |
| Keywords: | bond liquidity; dealer constraints; regulation |
| JEL: | G1 G2 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fednls:87195&r=all |