Dimensional Analysis, Leverage Neutrality, and Market Microstructure Invariance

31 Pages Posted: 28 May 2016 Last revised: 17 Aug 2017

See all articles by Albert S. Kyle

Albert S. Kyle

University of Maryland

Anna A. Obizhaeva

New Economic School (NES)

Multiple version iconThere are 2 versions of this paper

Date Written: July 30, 2017

Abstract

This paper combines dimensional analysis, leverage neutrality, and a principle of market microstructure invariance to derive scaling laws expressing transaction costs functions, bid-ask spreads, bet sizes, number of bets, and other financial variables in terms of dollar trading volume and volatility. The scaling laws are illustrated using data on bid-ask spreads and number of trades for Russian and U.S. stocks. These scaling laws provide practical metrics for risk managers and traders; scientific benchmarks for evaluating controversial issues related to high frequency trading, market crashes, and liquidity measurement; and guidelines for designing policies in the aftermath of financial crisis.

Keywords: market microstructure, liquidity, bid-ask spread, trade size, market depth, dimensional analysis, econophysics

JEL Classification: G10, G12, G14, G20

Suggested Citation

Kyle, Albert (Pete) S. and Obizhaeva, Anna A., Dimensional Analysis, Leverage Neutrality, and Market Microstructure Invariance (July 30, 2017). Available at SSRN: https://ssrn.com/abstract=2785559 or http://dx.doi.org/10.2139/ssrn.2785559

Albert (Pete) S. Kyle

University of Maryland ( email )

College Park
College Park, MD 20742
United States

Anna A. Obizhaeva (Contact Author)

New Economic School (NES) ( email )

100A Novaya ul
Moscow, Skolkovo 143026
Russia

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