A continuous and efficient fundamental price on the discrete order book\n grid

2016/08/02 by Julius Bonart, Fabrizio Lillo, Bonart, Julius +1 · 1 citation
Economics, Econometrics and Finance · #Complex Systems and Time Series Analysis #Economic theories and models #FOS: Economics and business #Financial Markets and Investment Strategies #Statistical Finance (q-fin.ST) #Trading and Market Microstructure (q-fin.TR)

paper · pdf · doi:10.48550/arxiv.1608.00756

openalex publication_date 2016/08/02 · openalex created_date 2025/10/10 · openalex updated_date 2026/07/28

Abstract

This paper develops a model of liquidity provision in financial markets by\nadapting the Madhavan, Richardson, and Roomans (1997) price formation model to\nrealistic order books with quote discretization and liquidity rebates. We\npostulate that liquidity providers observe a fundamental price which is\ncontinuous, efficient, and can assume values outside the interval spanned by\nthe best quotes. We confirm the predictions of our price formation model with\nextensive empirical tests on large high-frequency datasets of 100 liquid Nasdaq\nstocks. Finally we use the model to propose an estimator of the fundamental\nprice based on the rebate adjusted volume imbalance at the best quotes and we\nempirically show that it outperforms other simpler estimators.\n

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