Explaining Liquidity Dynamics in the Order Driven FX Spot Market

Katarzyna Bień-Barkowska

doi:https://doi.org/10.59139/ps.2014.03.1

Katarzyna Bień-Barkowska Warsaw School of Economics Przegląd Statystyczny. Statistical Review, vol. 61, 2014, 3, pages: 223-244 Published online: 30 September 2014 DOI https://doi.org/10.59139/ps.2014.03.1

528 Views 34 Downloads

ARTICLE

(English) PDF

ABSTRACT

The paper investigates the dynamics of several intraday liquidity measures for the Reuters Dealing 3000 Spot Matching System that constitutes a major order driven interbank spot market for the EUR/ PLN. We derive the time-of-day and the day-of-week effects for different liquidity variables representing the shape of the limit order book. In order to capture the strong persistence exhibited by liquidity, the long memory Autoregressive Conditional Duration (ACD) models are applied. Special attention is paid to the impact of information arrival on liquidity fluctuations. We document the signifi cant positive impact of probability of informed trading (PIN) on the price impact of trading and the bid-ask spread and the negative impact of the PIN on the liquidity supply on the ask side of the market (orders to sell euro), after controlling for the effects of other covariates such as the trading volume, volatility or previously observed returns.

KEYWORDS

market microstructure, order-driven market, probability of informed trading, ACD models

REFERENCES

Admati A., Pfl eiderer P., (1988), A Theory of Intra-Day Patterns: Volume and Price Variability, Review of Financial Studies, 1, 3–40.

Ahn H., Cai J., Hamao Y., Ho R., (2002), The Components of the Bid-Ask Spread in a Limit Order Market: Evidence from the Tokyo Stock Exchange, Journal of Empirical Finance, 9, 399–430.

Amihud Y., (2002), Illiquidity and Stock Returns: Cross Section and Time Series Effects, Journal of Financial Markets, 5, 31–56.

Andersen T. G., Bollerslev T., (1997), Intraday Periodicity and Volatility Persistence in Financial Markets, Journal of Empirical Finance, 4, 115–158.

Bagehot W., (1971), The Only Game in Town, Financial Analysts Journal, 27, 12–14.

Bauwens L., Giot P., (2000), The Logarithmic ACD Model: An Application to the Bid/Ask Quote Process of two NYSE Stocks, Annales d’Economie et de Statistique, 60, 117–149.

Bauwens L., Veredas D., (2004), The Stochastic Conditional Duration Model: A Latent Factor Model for the Analysis of Financial Durations, Journal of Econometrics, 199, 381–412.

Bień-Barkowska K., (2013), Informed and Uninformed Trading in the EUR/PLN Spot Market, Applied Financial Economics, 23 (7), 619–628.

Black F., (1971), Toward a Fully Automated Stock Exchange, Part I, Financial Analysts Journal, 27, 29–44.

Bloomfeld R., O’Hara M., Saar G., (2005), The ’Make or Take’ Decision in an Electronic Market: Evidence on an Evolution of Liquidity, Journal of Financial Economics, 75, 165–199.

Blais M., Protter P., (2012), Signing Trades and an Evolution of the Lee and Ready Algorithm, Annals of Finance, 8, 1–13.

Boehmer E., Grammig J., Theissen E., (2007), Estimating the Probability of Informed Trading – Does Trade Misclassifi cation Matter? Journal of Financial Markets, 10, 26–47.

Brockman P., Chung D. Y., (1998), Inter- and Intra-day Liquidity Patterns o the Stock Exchange of Hong Kong, Journal of International Financial Markets, Institutions and Money, 8, 279–300.

Brockman P., Chung D. Y., (1999), An Analysis of Depth Behavior in an Electronic, Order-Driven Environment, Journal of Banking and Finance 23, 1861–1886.

Brockman P., Chung D. Y., (2000), Informed and Uniformed Trading in an Electronic Market-Driven Environment, The Financial Review, 35, 125–146.

Brzeszczyński J., Melvin M., (2006), Explaining Trading Volume in the Euro, International Journal of Finance and Econometrics, 11, 25–35.

De Jong F., Rindi B., (2009), The Microstructure of Financial Markets, Cambridge.

Doman M., (2008), Information Impact on Stock Price Dynamics, Dynamic Econometric Models, 8, 13–20.

Doman M., (2011), Mikrostruktura Giełd Papierów Wartościowych, Wydawnictwo Uniwersytetu Ekonomicznego w Poznaniu, Poznań.

Easley D., Engle R. F., O’Hara M., Wu L., (2008), Time-Varying Arrival Rates of Informed and Uninformed Trades, Journal of Financial Econometrics, 6, 171–207.

Easley D., Kiefer N. O’Hara M., Paperman J., (1996), Liquidity, Information and Infrequently Traded Stocks, Journal of Finance, 51, 1405–1436.

Easley D., O’Hara M., (1987), Price, Trade Size, and Information in Securities Markets, Journal of Financial Economics, 19, 69–90.

Engle R. F., Russell J. R., (1998), Autoregressive Conditional Duration: A New Model for Irregularly Spaced Transaction Data, Econometrica, 66, 1127–1162.

Foster D. F., Viswanathan S., (1990), A Theory of Intraday Variations in Trading Volume, Variance, and Trading Costs in Securities Markets, Review of Financial Studies, 3, 593–624.

Foster D. F., Viswanathan S., (1993), Variations in Trading Volume, Return Volatility, and Trading Costs: Evidence on Recent Price Formation Models, Journal of Finance, 48, 187–212.

Glosten L. R., Milgrom P. R., (1985), Bid, Ask and Transaction Prices in a Specialist Market with Heterogeneously Informed Traders, Journal of Financial Economics, 14, 71–100.

Grammig J., Maurer K.-O, (2000), Non-Monotonic Hazard Functions and the Autoregressive Conditional Duration Model, Econometrics Journal, 3, 16–38.

Harris L. E., (1998), Optimal Order Submission Strategies in Some Stylized Trading Problems, Financial Markets, Institutions and Instruments, 7, 149–178.

Hasbrouck J., Seppi D. J., (2001), Common Factors in Prices, Order Flows and Liquidity, Journal of Financial Economics, 59, 383–411.

Hautsch N., (2004), Modelling Irregularly Spaced Financial Data. Theory and Practice of Dynamic Duration Models, Springer, Heidelberg.

Hefl in F., Shaw K., Wild J., (2007), Disclosure Policy and Intraday Spread Patterns, The Review of Accounting and Finance, 6, 285–303.

Jasiak J., (1998), Persistence in Intertrade Durations, Finance, 19 (2), 166–195.

King M. R., Osler C. L., Rime D., (2013), The Market Microstructure Approach to Foreign Exchange: Looking Back and looking Forward, Journal of International Money and Finance, 38, 95–119.

Kyle A., (1985), Continuous Auctions and Insider Trading, Econometrica, 22, 477–498.

Lo I., Sapp S., (2008), The Submission of Limit Orders or Market Orders, The Role of Timing and Information in the Reuters D2000–2 System, Journal of International Money and Finance, 27, 1056–1073.

Lo I., Sapp S., (2010), Order Aggressiveness and Quantity: How Are They Determined in a Limit Order Market? Journal of International Financial Markets, Institutions & Money, 20, 213–237.

Manganelli S., (2005), Duration, Volume and Volatility Impact of Trades, Journal of Financial Markets, 8, 377–399.

McInish T., Wood R. A., (1992), An Analysis of Intraday Patterns in Bid/Ask Spreads for NYSE Stocks, Journal of Finance, 47, 753–764.

Menkoff L., Osler C., Schmeling M., (2010), Limit–order Submission Strategies under Asymmetric Information, Journal of Banking and Finance, 34, 2665–2677.

Nolte I., (2008), Modeling a Multivariate Transaction Process, Journal of Financial Econometrics, 6, 143–170.

Nyholm K., (2002), Estimating the Probability of Informed Trading, The Journal of Financial Research 25, 485–505.

Nyholm K., (2003), Inferring the Private Information Content of Trades: A Regime Switching Approach, Journal of Applied Econometrics, 18, 457-470.

Pacurar M., (2008), Autoregressive Conditional Duration Models in Finance: A Survey of the Theoretical and Empirical Literature, Journal of Economic Surveys, 22, 711–751.

Sarno L., Taylor M., (2002), The Economics of Exchange Rates, Cambridge University Press, Cambridge.

Sarr A., Lybek T., (2002), Measuring Liquidity in Financial Markets, IMF Working Paper, WP/02/232.