Strategic Liquidity Provision and Extreme Volatility Spikes

Management Science, Forthcoming

92 Pages Posted: 14 Nov 2020 Last revised: 19 Jun 2024

See all articles by Jonathan Brogaard

Jonathan Brogaard

University of Utah - David Eccles School of Business

Konstantin Sokolov

University of Memphis - Fogelman College of Business and Economics

Jiang Zhang

University of St. Thomas - Opus College of Business

Date Written: September 26, 2020

Abstract

We test competing theories of liquidity dynamics during extreme volatility spikes (EVSs). We find that liquidity providers strategically allow for price pressures and are compensated from correcting pricing errors. As a result, liquidity provision intensifies towards the end of a typical EVS. This goes counter to a widespread concern that market making constraints cause liquidity to deteriorate as EVSs develop. The prevailing limit order book dynamics during EVSs are in line with Weill’s (2007) socially beneficial equilibrium.

Keywords: extreme price movements, price pressures, strategic liquidity provision, extreme volatility spikes

JEL Classification: G10, G14

Suggested Citation

Brogaard, Jonathan and Sokolov, Konstantin and Zhang, Jiang, Strategic Liquidity Provision and Extreme Volatility Spikes (September 26, 2020). Management Science, Forthcoming, Available at SSRN: https://ssrn.com/abstract=3700218 or http://dx.doi.org/10.2139/ssrn.3700218

Jonathan Brogaard

University of Utah - David Eccles School of Business ( email )

1645 E Campus Center Dr
Salt Lake City, UT 84112-9303
United States

HOME PAGE: http://www.jonathanbrogaard.com

Konstantin Sokolov (Contact Author)

University of Memphis - Fogelman College of Business and Economics ( email )

Memphis, TN 38152
United States

Jiang Zhang

University of St. Thomas - Opus College of Business

2115 Summit Ave.
St. Paul, MN 55015
United States

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