Managing Inventory with Proportional Transaction Costs

Florent Gallien, Serge Kassibrakis, Semyon Malamud and Filippo Passerini
Additional contact information
Florent Gallien: Swissquote Bank
Serge Kassibrakis: Swissquote Bank
Semyon Malamud: Ecole Polytechnique Fédérale de Lausanne, Swiss Finance Institute, and Centre for Economic Policy Research (CEPR)
Filippo Passerini: Swissquote Bank

No 16-48, Swiss Finance Institute Research Paper Series from Swiss Finance Institute

Abstract: We solve the problem of optimal inventory management for a CARA market-maker who faces proportional transaction costs and marking to market. Our explicit solution accommodates inventory shocks following an arbitrary compound Poisson process, and allows us to explicitly link the optimal policy to the moment-generating function of the shock distribution. We show that the no-trade region is always wider in the presence of shocks, increases with the order imbalance, and usually decreases with the markups charged by the market-maker. We use our explicit solution to derive several comparative statics results and calibrate our solution to inventory data of Forex clients of a bank. Our findings suggest that optimal accounting for inventory shocks leads to significant utility gains.

Keywords: Inventory Management; Market Making; Transaction Costs (search for similar items in EconPapers)
JEL-codes: C61 D92 G11 G24 G32 (search for similar items in EconPapers)
Pages: 52 pages
Date: 2016-06
New Economics Papers: this item is included in nep-cfn and nep-upt
References: Add references at CitEc
Citations: View citations in EconPapers (2)

Downloads: (external link)
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2788593 (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:chf:rpseri:rp1648

Access Statistics for this paper

More papers in Swiss Finance Institute Research Paper Series from Swiss Finance Institute Contact information at EDIRC.
Bibliographic data for series maintained by Ridima Mittal ().