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The two square root laws of market impact and the role of sophisticated market participants

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  • Bruno Durin
  • Mathieu Rosenbaum
  • Gr'egoire Szymanski

Abstract

The goal of this paper is to disentangle the roles of volume and of participation rate in the price response of the market to a sequence of transactions. To do so, we are inspired the methodology introduced in arXiv:1402.1288, arXiv:1805.07134 where price dynamics are derived from order flow dynamics using no arbitrage assumptions. We extend this approach by taking into account a sophisticated market participant having superior abilities to analyse market dynamics. Our results lead to the recovery of two square root laws: (i) For a given participation rate, during the execution of a metaorder, the market impact evolves in a square root manner with respect to the cumulated traded volume. (ii) For a given executed volume $Q$, the market impact is proportional to $\sqrt{\gamma}$, where $\gamma$ denotes the participation rate, for $\gamma$ large enough. Smaller participation rates induce a more linear dependence of the market impact in the participation rate.

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  • Bruno Durin & Mathieu Rosenbaum & Gr'egoire Szymanski, 2023. "The two square root laws of market impact and the role of sophisticated market participants," Papers 2311.18283, arXiv.org.
    • Handle: RePEc:arx:papers:2311.18283
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    References listed on IDEAS

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