nep-mst New Economics Papers
on Market Microstructure
Issue of 2022‒08‒22
four papers chosen by
Thanos Verousis

  1. Market Making with Scaled Beta Policies By Joseph Jerome; Gregory Palmer; Rahul Savani
  2. Trading Volume and Liquidity Provision in Cryptocurrency Markets By Daniele Bianchi; Mykola Babiak; Alexander Dickerson
  3. Creative Destruction and Stock Price Informativeness in Emerging Economies By Dai, Shangze; Fan, Fei; Zhang, Keke
  4. Sorting Versus Screening in Decentralized Markets With Adverse Selection By Sarah Auster; Piero Gottardi

  1. By: Joseph Jerome; Gregory Palmer; Rahul Savani
    Abstract: This paper introduces a new representation for the actions of a market maker in an order-driven market. This representation uses scaled beta distributions, and generalises three approaches taken in the artificial intelligence for market making literature: single price-level selection, ladder strategies and "market making at the touch". Ladder strategies place uniform volume across an interval of contiguous prices. Scaled beta distribution based policies generalise these, allowing volume to be skewed across the price interval. We demonstrate that this flexibility is useful for inventory management, one of the key challenges faced by a market maker. In this paper, we conduct three main experiments: first, we compare our more flexible beta-based actions with the special case of ladder strategies; then, we investigate the performance of simple fixed distributions; and finally, we devise and evaluate a simple and intuitive dynamic control policy that adjusts actions in a continuous manner depending on the signed inventory that the market maker has acquired. All empirical evaluations use a high-fidelity limit order book simulator based on historical data with 50 levels on each side.
    Date: 2022–07
  2. By: Daniele Bianchi; Mykola Babiak; Alexander Dickerson
    Abstract: We provide empirical evidence within the context of cryptocurrency markets that the returns from liquidity provision, proxied by the returns of a short-term reversal strategy, are primarily concentrated in trading pairs with lower levels of market activity. Empirically, we focus on a moderately large cross section of cryptocurrency pairs traded against the U.S. Dollar from March 1, 2017 to March 1, 2022 on multiple centralised exchanges. Our findings suggest that expected returns from liquidity provision are amplified in smaller, more volatile, and less liquid cryptocurrency pairs, where fear of adverse selection might be higher. A panel regression analysis confirms that the interaction between lagged returns and trading volume contains significant predictive information about the dynamics of cryptocurrency returns. This is consistent with theories that highlight the roles of inventory risk and adverse selection for liquidity provision.
    Keywords: liquidity provision; short-term reversal; trading volume; empirical asset pricing; adverse selection;
    JEL: G12 G17 E44 C58
    Date: 2022–06
  3. By: Dai, Shangze; Fan, Fei; Zhang, Keke
    Abstract: It is generally accepted that creative destruction can increase stock price informativeness, for innovative companies tend to behave more surprisingly. However, we believe the rising of stock price informativeness by enterprise innovation in emerging or developing markets is, in some sense, the result of executive ownership and insider trading. To investigate our proposition, we build a rational expectation framework model and define stock price informativeness (SPI) as the Kolmogorov-Smirnov distance between expected distribution and actual distribution of stock prices. Then we use Chinese listed company data to perform benchmark and mediation effects regressions, along with instrumental variable regression in the empirical sector. After that, we use Thailand and Indonesia listed company data for robustness tests. Finally, we divide Chinese listed companies into developed-economy funded and others to do grouping regression. The main conclusion is: Creative destruction can raise stock price informativeness, while executive ownership plays a partial mediating effect in the path of such influence. However, that mechanism is not significant when we use developed-country-funded enterprises listed in China as the sample for regression. Thus, the effects of creative destruction on stock price informativeness are uneven across countries, and executive ownership plays a vital role in that impact in emerging economies.
    Keywords: Stock price synchronicity; Enterprise innovation; Inside information; Executive ownership; Rational expectation
    JEL: G2 G3 G32
    Date: 2022–07–05
  4. By: Sarah Auster; Piero Gottardi
    Abstract: We study the role of traders' meeting capacities in decentralized markets with adverse selection. Uninformed customers choose trading mechanisms in order to find a provider for a service. Providers are privately informed about their quality and aim to match with one of the customers. We consider a rich set of meeting technologies and characterize the properties of the equilibrium allocations for each of them. In equilibrium, different provider types can be separated either via sorting---they self-select into different submarkets---or screening within the trading mechanism, or a combination of the two. We show that, as the meeting technology improves, the equilibrium features more screening and less sorting. Interestingly, this reduces both the average quality of trade as well as the total level of trade in the economy. The trading losses are, however, compensated by savings in entry costs, so that welfare increases.
    Keywords: Competitive Search, Adverse Selection, Market Segmentation
    JEL: C78 D44 D83
    Date: 2022–08

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