Microscopic understanding of heavy-tailed return distributions in an agent-based model

Abstract

The distribution of returns in financial time series exhibits heavy tails. In empirical studies, it has been found that gaps between the orders in the order book lead to large price shifts and thereby to these heavy tails. We set up an agent based model to study this issue and, in particular, how the gaps in the order book emerge. The trading mechanism in our model is based on a double-auction order book, which is used on nearly all stock exchanges. In situations where the order book is densely occupied with limit orders we do not observe fat-tailed distributions. As soon as less liquidity is available, a gap structure forms which leads to return distributions with heavy tails. We show that return distributions with heavy tails are an order-book effect if the available liquidity is constrained. This is largely independent of the specific trading strategies.

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Cited by in corpus (14)

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• Cross-response in correlated financial markets: individual stocks
• Average cross-responses in correlated financial market
• A detailed heterogeneous agent model for a single asset financial market with trading via an order book
• Microscopic Understanding of Cross-Responses between Stocks: a Two-Component Price Impact Model
• How spread changes affect the order book: Comparing the price responses of order deletions and placements to trades
• Equilibrium Pricing in an Order Book Environment: Case Study for a Spin Model
• Regularities and Irregularities in Order Flow Data
• Grasping asymmetric information in market impacts
• Price response in correlated financial markets: empirical results
• Analysis of a decision model in the context of equilibrium pricing and order book pricing
• Multivariate Distributions in Non-Stationary Complex Systems I: Random Matrix Model and Formulae for Data Analysis
• Two Price Regimes in Limit Order Books: Liquidity Cushion and Fragmented Distant Field