Why Do Markets Crash? Bitcoin Data Offers Unprecedented Insights

13 Pages Posted: 24 Mar 2015 Last revised: 15 Oct 2015

See all articles by Jonathan Donier

Jonathan Donier

Université Paris VI Pierre et Marie Curie

Jean-Philippe Bouchaud

Capital Fund Management

Date Written: March 23, 2015

Abstract

Crashes have fascinated and baffled many canny observers of financial markets. In the strict orthodoxy of the efficient market theory, crashes must be due to sudden changes of the fundamental valuation of assets. However, detailed empirical studies suggest that large price jumps cannot be explained by news and are the result of endogenous feedback loops. Although plausible, a clear-cut empirical evidence for such a scenario is still lacking. Here we show how crashes are conditioned by the market liquidity, for which we propose a new measure inspired by recent theories of market impact and based on readily available, public information. Our results open the possibility of a dynamical evaluation of liquidity risk and early warning signs of market instabilities, and could lead to a quantitative description of the mechanisms leading to market crashes.

Keywords: econophysics, financial markets, market stability, bubbles, crashes, market microstructure, market impact

JEL Classification: C5, C8, D4, G1

Suggested Citation

Donier, Jonathan and Bouchaud, Jean-Philippe, Why Do Markets Crash? Bitcoin Data Offers Unprecedented Insights (March 23, 2015). Available at SSRN: https://ssrn.com/abstract=2583743 or http://dx.doi.org/10.2139/ssrn.2583743

Jonathan Donier (Contact Author)

Université Paris VI Pierre et Marie Curie ( email )

175 Rue du Chevaleret
Paris, 75013
France

Jean-Philippe Bouchaud

Capital Fund Management ( email )

23 rue de l'Université
Paris, 75007
France
+33 1 49 49 59 20 (Phone)

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