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Power laws in market microstructure

Çetin, Umut ORCID: 0000-0001-8905-853X and Waelbroeck, Henri (2023) Power laws in market microstructure. In: Jarrow, Robert A and Madan, Dilip B, (eds.) Peter Carr Gedenkschrift: Research Advances in Mathematical Finance. World Scientific (Firm), 753 - 819. ISBN 9789811280290

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Identification Number: 10.1142/9789811280306_0022


We develop an equilibrium model for market impact of trades when investors with private signals execute via a trading desk. Fat tails in the signal distribution lead to a power law for price impact, while the impact is logarithmic for lighter tails. Moreover, the tail distribution of the equilibrium trade volume obeys a power law. The spread decreases with the degree of noise trading and increases with the number of insiders. In case of a monopolistic insider, the last slice traded against the limit order book is priced at the fundamental value of the asset reminiscent of the Kyle models in continuous time. However, competition among insiders leads to aggressive trading, hence vanishing profit in the limit. The model also predicts that the order book flattens as the amount of noise trading increases converging to a model with proportional transactions costs with non-vanishing spread.

Item Type: Book Section
Official URL:
Additional Information: © 2023 World Scientific Publishing Co. Pte. Ltd.
Divisions: Statistics
Subjects: H Social Sciences > HA Statistics
H Social Sciences > HG Finance
Q Science > QA Mathematics
Date Deposited: 07 May 2024 16:39
Last Modified: 04 Jul 2024 05:45

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