Abstract

http://ssrn.com/abstract=2021182
 


 



Non-Parametric Prediction of the Mid-Price Dynamics in a Limit Order Book


Deepan Palguna


Purdue University - School of Electrical and Computer Engineering, Purdue University

Ilya Pollak


Purdue University

February 24, 2012


Abstract:     
Many securities markets are organized as double auctions where each incoming limit order --- i.e., an order to buy or sell at a specific price --- is stored in a data structure called the limit order book. A trade happens whenever a market order arrives --- i.e., an order to buy or sell at the best currently available price. This order flow is visible to every market participant in real time. We propose a novel non-parametric approach to short-term forecasting of the mid-price change in a limit order book (i.e., of the change in the average of the best offer and the best bid prices). We construct a state vector characterizing the order book at each time instant and compute a feature vector for each value of the state vector. The features get updated during the course of a trading day, as new order flow information arrives. We cluster similar states together so that each cluster has enough observations for reliable feature estimation. The feature vector of a cluster is the average of the feature vectors of its constituent states. Our prediction at every time instant during the trading day is based on the feature vector of the cluster observed at that time instant. The distinction of our approach from the previous ones is that it does not impose a restrictive parametric model. Implicit assumptions of our method are very mild. Initial experiments with real order book data from NYSE suggest that our algorithms show promise. We illustrate their usage in a practical application of executing a large trade.

Number of Pages in PDF File: 14

Keywords: non-parametric regression, limit order books

JEL Classification: C12, C13, C14, G10

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Date posted: March 14, 2012 ; Last revised: January 17, 2013

Suggested Citation

Palguna, Deepan and Pollak, Ilya, Non-Parametric Prediction of the Mid-Price Dynamics in a Limit Order Book (February 24, 2012). Available at SSRN: http://ssrn.com/abstract=2021182 or http://dx.doi.org/10.2139/ssrn.2021182

Contact Information

Deepan Palguna
Purdue University - School of Electrical and Computer Engineering, Purdue University ( email )
School of Electrical and Computer Engineering
Purdue University
West Lafayette, IN 47907
United States
Ilya Pollak (Contact Author)
Purdue University ( email )
School of Electrical and Computer Engineering
West Lafayette, IN 47907
United States
HOME PAGE: http://engineering.purdue.edu/~ipollak/
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