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Market Informedness and Market-Maker Profitability: The Trade-Off Between Adverse Selection and Price Discovery

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  • Konrad Ochk{e}dzan
  • Nino Antulov-Fantulin

Abstract

This paper studies how market informedness affects market makers' profitability in a computational market environment with heterogeneous learning agents. We develop an agent-based market model in which market makers differ in their information sets and inventory-risk aversion, prices form endogenously, fundamental values evolve exogenously, and market-taker order flow follows a state-dependent self-exciting process. The model provides a controlled computational laboratory for analyzing the interaction between informed trading, adverse selection, price discovery, and liquidity provision. We establish finite-horizon stability properties of the market-taker order-flow process and solve the market-making problem using multi-agent reinforcement learning with centralized training and decentralized execution. The results show that informed market order flow is particularly harmful when aggregate market informedness is low, exposing market makers to severe adverse-selection risk. However, as market informedness increases, market-maker profitability displays an overall upward trend despite local non-monotonicities arising from complex market dynamics and stochastic learning. This suggests that the price-discovery benefits of informed trading can offset its adverse-selection costs. The findings contribute to computational economics by showing how agent heterogeneity, endogenous price formation, and learning-based liquidity provision jointly shape market outcomes.

Suggested Citation

  • Konrad Ochk{e}dzan & Nino Antulov-Fantulin, 2026. "Market Informedness and Market-Maker Profitability: The Trade-Off Between Adverse Selection and Price Discovery," Papers 2606.05882, arXiv.org, revised Jun 2026.
  • Handle: RePEc:arx:papers:2606.05882
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    References listed on IDEAS

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