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http://ssrn.com/abstract=1998832
 
 

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Quantifying Reflexivity in Financial Markets: Towards a Prediction of Flash Crashes


Vladimir Filimonov


Swiss Federal Institute of Technology Zurich (ETH Zurich)

Didier Sornette


Swiss Finance Institute; ETH Zurich

February 3, 2012

Swiss Finance Institute Research Paper No. 12-02

Abstract:     
We introduce a new measure of activity of financial markets that provides a direct access to their level of endogeneity. This measure quantifies how much of price changes are due to endogenous feedback processes, as opposed to exogenous news. For this, we calibrate the self-excited conditional Poisson Hawkes model, which combines in a natural and parsimonious way exogenous influences with self-excited dynamics, to the E-mini S&P 500 futures contracts traded in the Chicago Mercantile Exchange from 1998 to 2010. We find that the level of endogeneity has increased significantly from 1998 to 2010, with only 70% in 1998 to less than 30% since 2007 of the price changes resulting from some revealed exogenous information. Analogous to nuclear plant safety concerned with avoiding “criticality”, our measure provides a direct quantification of the distance of the financial market to a critical state defined precisely as the limit of diverging trading activity in absence of any external driving.

Number of Pages in PDF File: 24

Keywords: complex systems, econophysics, exogenous- versus endogenous, high-frequency trading, criticality, trading activity, volume

JEL Classification: C32, C53, G01, G14, G17

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Date posted: February 6, 2012  

Suggested Citation

Filimonov , Vladimir and Sornette, Didier, Quantifying Reflexivity in Financial Markets: Towards a Prediction of Flash Crashes (February 3, 2012). Swiss Finance Institute Research Paper No. 12-02. Available at SSRN: http://ssrn.com/abstract=1998832 or http://dx.doi.org/10.2139/ssrn.1998832

Contact Information

Vladimir Filimonov
Swiss Federal Institute of Technology Zurich (ETH Zurich) ( email )
Scheuchzerstrasse 7, SEC F3
Zurich, CH-8092
Switzerland
Didier Sornette (Contact Author)
Swiss Finance Institute ( email )
c/o University of Geneve
40, Bd du Pont-d'Arve
1211 Geneva, CH-6900
Switzerland
ETH Zurich ( email )
Department of Management, Technology and Economics
Scheuchzerstrasse 7
8092 Zurich
Switzerland
41446328917 (Phone)
41446321914 (Fax)
HOME PAGE: http://www.er.ethz.ch/
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