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Reflecting on the VPIN Dispute

Torben Andersen () and Oleg Bondarenko ()
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Oleg Bondarenko: University of Illinois at Chicago, Postal: 601 South Morgan Street, Room 2431, Chicago, IL 60607-7124, United States

CREATES Research Papers from Department of Economics and Business Economics, Aarhus University

Abstract: In Andersen and Bondarenko (2014), using tick data for S&P 500 futures, we establish that the VPIN metric of Easley, Lopez de Prado, and O'Hara (ELO), by construction, will be correlated with trading volume and return volatility (innovations). Whether VPIN is more strongly correlated with volume or volatility depends on the exact implementation. Hence, it is crucial for the interpretation of VPIN as a harbinger of market turbulence or as a predictor of short-term volatility to control for current volume and volatility. Doing so, we find no evidence of incremental predictive power of VPIN for future volatility. Likewise, VPIN does not attain unusual extremes prior to the flash crash. Moreover, the properties of VPIN are strongly dependent on the underlying trade classification. In particular, using more standard classification techniques, VPIN behaves in the exact opposite manner of what is portrayed in ELO (2011a, 2012a). At a minimum, ELO should rationalize this systematic reversal as the classification becomes more closely aligned with individual transactions. ELO (2014) dispute our findings. This note reviews the econometric methodology and the market microstructure arguments behind our conclusions and responds to a number of inaccurate assertions. In addition, we summarize fresh empirical evidence that corroborates the hypothesis that VPIN is largely driven, and significantly distorted, by the volume and volatility innovations. Furthermore, we note there is compelling new evidence that transaction-based classification schemes are more accurate than the bulk volume strategies advocated by ELO for constructing VPIN. In fact, using perfect classification leads to diametrically opposite results relative to ELO (2011a, 2012a).

Keywords: VPIN; PIN; High-Frequency Trading; Order Flow Toxicity; Order Imbalance; Flash Crash; VIX; Volatility Forecasting (search for similar items in EconPapers)
JEL-codes: G01 G14 G17 (search for similar items in EconPapers)
Pages: 12
Date: 2013-04-08
New Economics Papers: this item is included in nep-for and nep-mst
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