Please use this identifier to cite or link to this item: http://hdl.handle.net/10419/119822
Authors: 
Leal, Sandrine Jacob
Napoletano, Mauro
Roventini, Andrea
Fagiolo, Giorgio
Year of Publication: 
2014
Series/Report no.: 
LEM Working Paper Series 2014/03
Abstract: 
We build an agent-based model to study how the interplay between low- and high- frequency trading affects asset price dynamics. Our main goal is to investigate whether high-frequency trading exacerbates market volatility and generates flash crashes. In the model, low-frequency agents adopt trading rules based on chrono- logical time and can switch between fundamentalist and chartist strategies. On the contrary, high-frequency traders activation is event-driven and depends on price fluctuations. High-frequency traders use directional strategies to exploit market in- formation produced by low-frequency traders. Monte-Carlo simulations reveal that the model replicates the main stylized facts of financial markets. Furthermore, we find that the presence of high-frequency trading increases market volatility and plays a fundamental role in the generation of flash crashes. The emergence of flash crashes is explained by two salient characteristics of high-frequency traders, i.e., their ability to i) generate high bid-ask spreads and ii) synchronize on the sell side of the limit order book. Finally, we find that higher rates of order cancellation by high-frequency traders increase the incidence of flash crashes but reduce their duration.
Subjects: 
Agent-based models
Limit order book
High-frequency trading
Low-frequency trading
Flash crashes
Market volatility
JEL: 
G12
G01
C63
Document Type: 
Working Paper

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