 How efficiency shapes market impactJ. Farmer, Austin Gerig, Fabrizio Lillo and Henri Waelbroeck Quantitative Finance, 2013, vol. 13, issue 11, 1743-1758 Abstract: We develop a theory for the market impact of large trading orders, which we call metaorders because they are typically split into small pieces and executed incrementally. Market impact is empirically observed to be a concave function of metaorder size, i.e. the impact per share of large metaorders is smaller than that of small metaorders. We formulate a stylized model of an algorithmic execution service and derive a fair pricing condition, which says that the average transaction price of the metaorder is equal to the price after trading is completed. We show that at equilibrium the distribution of trading volume adjusts to reflect information, and dictates the shape of the impact function. The resulting theory makes empirically testable predictions for the functional form of both the temporary and permanent components of market impact. Based on the commonly observed asymptotic distribution for the volume of large trades, it says that market impact should increase asymptotically roughly as the square root of metaorder size, with average permanent impact relaxing to about two-thirds of peak impact. Date: 2013 Downloads: (external link) Related works: Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text Persistent link: https://EconPapers.repec.org/RePEc:taf:quantf:v:13:y:2013:i:11:p:1743-1758 Ordering information: This journal article can be ordered from DOI: 10.1080/14697688.2013.848464 Access Statistics for this article Quantitative Finance is currently edited by Michael Dempster and Jim Gatheral More articles in Quantitative Finance from Taylor & Francis Journals |
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