A Market-Clearing Role for Inefficiency on a Limit Order Book
AbstractUsing a stochastic sequential game in ergodic equilibrium, this paper models limit order book trading dynamics. It deduces investor surplus and some agents` strategies from depth`s stationarity, while bypassing altogether agents` intricate forecasting problems. Market inefficiency adjusts to induce equal supply and demand for liquidity over time. Consequently, at a given bid-ask spread surplus per investor is invariant to faster, more regular or more sophisticated trading, or modified queuing rules: apparent improvements are offset as inefficiency adjusts back to market-clearing levels. Moreover, investor surplus decreases with the spread. In the model, price discreteness fixes the spread at the tick size. Narrowing the tick is beneficial, but may be resisted by sell-side traders.
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Bibliographic InfoPaper provided by University of Oxford, Department of Economics in its series Economics Series Working Papers with number 2006-W08.
Date of creation: 01 Jul 2006
Date of revision:
Stochastic Sequential Game; Ergodic Equilibrium; Market Microstructure; Limit Order Book; Market Depths; Bid-ask Spread;
Find related papers by JEL classification:
- C73 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Stochastic and Dynamic Games; Evolutionary Games
- G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
- G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
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