A limit order book model for latency arbitrage

DOI10.1007/S11579-012-0082-5MaRDI QIDQ1938985zbMATH OpenOpenAlexFDO

Authors Samuel N. Cohen, Lukasz Szpruch

Publication date 26 February 2013

Published in Mathematics and Financial Economics (Search for Journal in Brave)

Full work available at URL https://arxiv.org/abs/1110.4811

zbMATH Keywords

limit order bookhigh-frequency tradingTobin taxlatency arbitrage

Mathematics Subject Classification ID

Macroeconomic theory (monetary models, models of taxation) (91B64) Corporate finance (dividends, real options, etc.) (91G50) Microeconomic theory (price theory and economic markets) (91B24)

Abstract: We consider a single security market based on a limit order book and two investors, with different speeds of trade execution. If the fast investor can front-run the slower investor, we show that this allows the fast trader to obtain risk free profits, but that these profits cannot be scaled. We derive the fast trader's optimal behaviour when she has only distributional knowledge of the slow trader's actions, with few restrictions on the possible prior distributions. We also consider the slower trader's response to the presence of a fast trader in a market, and the effects of the introduction of a `Tobin tax' on financial transactions. We show that such a tax can lead to the elimination of profits from front-running strategies. Consequently, a Tobin tax can both increase market efficiency and attract traders to a market.

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Cites work

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• Speculation and Tobin taxes: Why sand in the wheels can increase economic efficiency
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Cited in

(7)

• The Shadow Price of Latency: Improving Intraday Fill Ratios in Foreign Exchange Markets
• Modelling the shape of the limit order book
• scientific article; zbMATH DE number 5361721 (Why is no real title available?)
• From zero-intelligence to queue-reactive: limit-order-book modeling for high-frequency volatility estimation and optimal execution
• Quantifying the high-frequency trading ``arms race
• Liquidity suppliers and high frequency trading
• Latency and liquidity risk

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