Behind the Price: On the Role of Agent’s Reflexivity in Financial Market Microstructure

Abstract

In this chapter we review some recent results on the dynamics of price formation in financial markets and its relations with the efficient market hypothesis. Specifically, we present the limit order book mechanism for markets and we introduce the concepts of market impact and order flow, presenting their recently discovered empirical properties and discussing some possible interpretation in terms of agent's strategies. Our analysis confirms that quantitative analysis of data is crucial to validate qualitative hypothesis on investors' behavior in the regulated environment of order placement and to connect these micro-structural behaviors to the properties of the collective dynamics of the system as a whole, such for instance market efficiency. Finally we discuss the relation between some of the described properties and the theory of reflexivity proposing that in the process of price formation positive and negative feedback loops between the cognitive and manipulative function of agents are present. * Authors acknowledge partial support by the grant SNS13LILLB "Systemic risk in financial markets across time scales".

Probabilistic Cash Flow-Based Optimal Investment Timing Using Two-Color Rainbow Options Valuation for Economic Sustainability Appraisement

“…In economics, an asset price moves in a random walk, assuming an efficient market hypothesis [17]. In the efficient market hypothesis, the PV completely reflects the past record of asset prices, and the market reacts directly to the latest information about the asset.…”